Some five months after assuming office in May 2014, the BJP-led NDA government cleared a cabinet proposal for the revival of close to two dozen unlicensed District Central Cooperative Banks (DCCBs). In the Union Budget 2017-18, Finance Minister Arun Jaitley further reposed trust in DCCBs. Jaitley talked about supporting NABARD (National Bank for Agriculture & Rural Development), also the regulator for cooperative banks, for computerisation and integration of all the Primary Agricultural Credit Societies (PACs) with the core banking system of DCCBs. The government's positive moves however are at odds with the banking regulator, the Reserve Bank of India's (RBI) lack of trust in the cooperative banking sector. In the recent demonetisation exercise, the RBI had prohibited DCCBs from exchanging old notes with new ones. The RBI had feared that the presence of politicians on the boards of DCCBs could inject black money back into the banking system.
The above two conflicting approaches begs the question: Why is the government supporting DCCBs when the regulator doesn't trust them? The cooperative banking structure is as old as commercial banking with a deep rooted presence in remote areas where the banks took a long time to create an outpost. In a three-tier structure, the 370 odd DCCBs are a crucial link between the 32 State Cooperative Banks (SCBs) and 92,000 PACs. The DCCBs depend on SCBs for borrowing funds while the PACs rely on DCCBs for their fund requirements. "We provide a crucial link for flow of credit to the agri-related sectors and also to cooperative societies. We have a strong relationship with farmers," says P.B. Chavan, CEO of Kolhapur District Central Cooperative Bank Ltd. "It would be politically suicidal for any government to let the century old system collapse," says another head of a DCCB on condition of anonymity.
The mandarins at Mint Street say that cooperatives is primarily a state subject and they don't have much say in the affairs of the banks. While the regulatory functions was brought under the RBI some three years ago, the NABARD has all the supervisory powers over SCBs as well as DCCBs. In fact, DCCBs are registered with respective states under the Cooperative Society Act. Currently, Uttar Pradesh, given its large size, has the highest number of DCCBs at 50 followed by Madhya Pradesh (38), Maharashtra (31) and Rajasthan (29). (See Three tier structure for cooperative banks). The state plays a dominant role in the affairs of the sector which is a big stumbling block in the way of reforms in the sector. The politician-bank nexus is very direct in cooperative banks. For example, the chairman and the directors on the boards of most of the DCCBs are either MLAs or MLCs with affiliation to big political parties.
Many say that politicians are mainly responsible for the gradual decline of the sector. But it is also the reason for the survival of DCCBs despite poor governance and financial record, "Weak corporate governance has been one of the major factors plaguing the sector and has led to bank failures and unsatisfactory growth of the sector," admitted R. Gandhi, Deputy Governor at the RBI two years ago while speaking at the silver jubilee celebrations of the National Institute of Rural Banking at Bengaluru (see What Ails The System). The history of cooperatives dates back to 1900 but the entire size of the industry including urban cooperative banks is not even 5 per cent of commercial banking. This negligible presence raises the question of the very need of supporting a system which has outlived its usefulness.
L.K. Sharma, Managing Director of Muzaffarpur District Cooperative Bank strongly defends the DCCBs, asserting that the narrow product focus on the agricultural sector - which brings the highest NPAs - has been one of the reasons for the slow growth because the capital gets absorbed in provisioning. "Unlike banks, we operate in a limited geography, which restricts our growth," says Sharma, whose bank is active in the Muzaffarpur district of Bihar. "Why are foreign banks not keen to convert from branches into subsidiaries in India despite the RBI allowing them sops? RBI has permitted conversion provided foreign banks also meet higher priority sector targets. Nobody wants to do agricultural credit or serve the marginal farmers," says another head of a DCCB. Many DCCBs cite the reluctance of the RBI to allow internet banking or new mobile and Aadhaar enabled payments as the reason for customers shifting to commercial banks. Commercial bankers say the RBI's concern is the high NPAs of DCCBs. The average gross NPAs of DCCBs are in double digits and one of the reasons why the RBI is not allowing them to offer Internet and mobile banking. "We should be given concessions or exception from the NPA criterion because the incidence of defaults are higher in agricultural loans. Today, even the commercial banks have stressed assets of over 15 per cent," says a chairman of a DCCB.
Even as the cooperative sector is crying for support, the regulator is encouraging a new institutional set up in rural geographies by way of small finance banks. The RBI has given banking licenses to about a dozen such banks, mostly micro finance lenders. So, competition is now at the doorstep of cooperative banks. The commercial banks too have been growing their share in rural agricultural credit over the last few decades. For example , private sector HDFC Bank has half of its branches in rural and semi-urban areas. Today, the bank and cooperative industry provide rural credit along with non-institutional sources like landlords, moneylenders and traders. This reliance on non-institutional sources also offers a huge scope for institutional credit. That's where small finance banks fit in.
The small finance banks have already started opening branches in these regions not only to give the existing players - banks and cooperative banks - competition, but also to attack the non-institutional sources like money lenders. "The biggest difference will be on the type of services we would provide. We will use the latest technology and channels to reach out to the rural masses," says Govind Singh, MD & CEO at Utkarsh Small Finance Bank. These banks focus on technology with better interest rates and could be big competition for cooperatives.
In the last decade, the DCCBs have made some headway in technology adoption as they have completed core banking solution (CBS), which allows customers to do deposits and withdrawal transactions from any branch of the bank. These banks will now have to adopt digital banking by digitising their processes and also offer mobile banking. "We need support from states as well as the Central government for technology know-how. The NABARD fund should be used for technology adoption," says Chavan of Kolhapur DCCB. In fact, the government did exactly that when it implemented the CBS at DCCBs. "We don't have the resources and the management bandwith to implement Internet and mobile banking solution. The government should step in to support us," says Sharma of Muzaffarpur DCCB. (See The Way Forward.)
There is also a need for bringing in professional management including eminent professionals on the board. This would partly solve the problem of frauds which have become very common in DCCBs because of poor system and processes. In some ways, DCCBs are also like public sector banks (PSBs) in terms of performance management, loan appraisal policies and their implementation, deterioration of asset quality, etc. "DCCBs have to make the best utilisation of capital by having robust systems," says a banker.
Time is fast running out for DCCBs to reform. If they don't put their act together, the arrival of new differentiated banks - both payments and small finance banks - will only hasten their gradual demise.