Banking industry: risk, governance and future outlook

Abstract

The Indian banking sector has undergone major changes since Independence. Post 1991, a number of reforms were introduced in the financial sector like recapitalization of banks, relaxation in granting of licences to new private banks, reduction in Government’s pre-emption of bank resources etc. to tide with the BOP crisis. However, the collapse of the Lehman Brothers in the late 2008, resulted in a sudden and massive change surrounding our banks. There was an increase in the scrutiny of bank boards and increased regulatory compliances. The public and academia interest towards corporate governance of banks saw new light. The motive behind our study was to examine the regulatory reforms encompassing both monetary and fiscal ones that were introduced to improve the liquidity condition and assess the effectiveness of those reforms. Along with this, we aim to examine whether the structure of the Board of a bank, its composition, independence and promoter shareholding has any bearing to its profitability, asset quality and capital adequacy. There have been several studies conducted in the past on corporate governance focused mostly Europe, US and other similar developed nations. Our study explores the relationship between these corporate governance variables with the financial performance in the Indian context. It shall contribute to the existing literature by understanding corporate governance practices of banks in emerging nations like India by exploring board structure, promoter stake and performance of a sample of 36 Indian banks. Using Panel Data Regression with the Fixed Effect model, we examined the effects of Board’s structure, its size and promoter stake on the bank’s profitability (measured in terms of ROA and ROE), asset quality (as measured by GNPA) and capital adequacy (as measured by CRAR).We found that Board size, Board independence or the promoter stake have no statistically significant impact on a Bank’s profitability, asset quality or its capital adequacy. Few studies done earlier prove our findings correct whereas in a few cases, we have seen contrasting results. The primary reason behind this was the fact that we had considered only Indian Banks while performing the regression and ignored the foreign global banks, based on which most of the existing literature has been based. We however believe that an optimal board size and independence will positively contribute to the Good governance in banks and our findings might find relevance in the ongoing restructuring of the Bank Boards across India.