India’s bank consolidation bid presents more risks than benefits, says Moody’s

The amount of stressed assets is simply too high.

The Indian Government has recently rolled out a proposal to consolidate the country's public sector banks (PSBs) in a bid to cut costs and improve corporate governance across the banking system. However, Moody’s warned that the move creates risks which could offset the potential long-term benefits.

"India's banking system has witnessed an increase in stressed assets since 2012, with the result that no PSB currently has the financial strength to assume a consolidator role without risking its own credit standing post-merger," said Alka Anbarasu, a Moody's Vice President and Senior Analyst.

Anbarasu noted that without significant government support to boost the banks' capitalization, many banks will have difficulties meeting minimum regulatory requirements on back of sluggish performance and weakened financial metrics since 2012.

On top of this financial pressure, all listed PSBs are trading at a significant discount to their book value, limiting their ability to attract external capital to support acquisitions.

Moody's also expects “considerable” challenges from potential opposition from employee unions, which could hamper merger efforts and drive up costs. For example, SBI estimates that its merger with the associate banks will cost up to INR30 million due to differences in employee pension schemes.

As a result, Moody's stressed that government support will be a crucial driver of the credit outcome of potential mergers, particularly in the form of the equity capital required to shore up capital buffers.

The Indian government's ultimate aim is to reduce the number of PSBs to about 8-10 from the current 27.