References:

http://www.jstor.org/stable/pdfplus/4411813.pdf?acceptTC=true
http://www.jstor.org/stable/pdfplus/4411684.pdf?&acceptTC=true&jpdConfirm=true
Literature Review
1. Performance of the Public Sector Banks in Indian Banking Industry
Over the past few decades, the Indian banking industry has evolved and transformed itself
from a socialist licensed raj business to a liberalized, modernized & technology oriented
sector. Banking industry went major changes post liberalization and the economic reforms
totally changed the face of the sector. Narsimhan Committee recommendations were acted
upon and RBI gave green signal to private banks in the Indian banking scenario because of
the poor loan recovery, weak capital position, high cost and low profitability of public sector
banks at that time.
The primary aim of PSBs of India has not been profitability but some scholars such as Das
(1999) have attempted to cite the profitability of Indian public sector banks by comparing
performance among PSBs for three years 1992, 1995 and 1998. There is certain convergence
to be noted in the performances with banks opting for risk free investments rather than risky
loans. Post deregulation performance of the all the banks including the public sector banks
was mostly on the positive side with capital adequacy and asset quality measured by net
NPAs improving over the period 1995-6 and 1999-2000 and median profit per employee in
PSBs improving between 1996-7 and 1999-2000, there was an overall efficiency decline in
1990-96. This efficiency decline was because of technical efficiency decline which was not
offset by an improvement in allocative efficiency but the studies have pointed out that the
decline of efficiency was mainly due to the four nationalized banks. Overall, there has not
been a clear trend towards improvement in the PSBs performance. Ram Mohan claims that
even though there has not been a clear trend towards improved efficiency over the decade of
the 1990s, there is a clear trend in the recent period from 1996-97 to 1999-2000, when the
interest spread has declined. Second, a decrease in provisions (due to the cleaning up of bank
balance sheets) improved profitability of the public sector banks. Finally, for the latter half of
the decade the public sector banks have done better than private sector banks in terms of the
spread or the net interest income.
Ram Mohan also claims that the profitability of the public sector banks has improved over
the latter half of the decade and also their profitability relative to the profitability of the
private and foreign banks has improved. However, this figure is not a reflection of improved
performance of public sector banks. This is because the private and foreign banks have been
aggressive in making expenditures that are provisioning and contingency related. This
reflects possibly better risk-management practices and given that their capital adequacy ratios
have been much higher, it has contributed to making them safer financial intermediaries,
thereby enabling their borrowing at lower interest rates, which contains their interest
expenses. The relatively lower profitability of the private and foreign banks is therefore a
result of more prudence in management and that is a trade-off taken which needs to be part
and parcel of any judgment about declining growth rates of profitability. Third, the large
growth rate of operating expenses by the private and foreign banks would seem to point to
their being high cost operators. However, investigation of their operating expenses shows no
acceleration in establishment expenses, advertising, insurance, etc, but in other items of
expenditure. Here we can conjecture that these banks have been spending heavily on
technology up-gradation which may have reduced their short-term profitability but which will
improve their longer term returns as they leverage the technology to provide better customer

support and to manage their assets. Due to these three considerations, the improved relative
profitability of the public sector banks in the latter half of the 1990s is not necessarily
reflective of improved performance by these banks.
However, two caveats are, however, necessary with respect to the comparisons made. The
private sector banks include the 'new private sector banks' that have been in operation for six
years or less. As non-performing assets tend to show up over a longer time horizon, the NPAs
of private sector banks may be understated and hence profitability overstated. As for foreign
banks, this is a highly disparate category in terms of operating characteristics and with wide
variations in performance. Further, in the years under review, income at many of these banks
has been boosted by asset sales. It is a moot point, therefore, whether a comparison with this
category can be used to draw any meaningful inferences.
In conclusion, when we compare the performance of PSBs as a whole with respect to private
sector banks and foreign banks over the period 1994-95 to 1999-2000, we find PSBs'
performance to be clearly inferior - this is probably the basis for the criticism of PSBs'
performance that is often heard in public discourse. However, when we fine-tune the
comparison, we find the picture changing. A comparison of PSBs with old private sector
banks shows the gap in performance narrowing (Ram Mohan,2002). The gap becomes
narrower still when we leave the three weak banks out of the PSB category. Finally,
comparing nationalised banks with old private sector banks, we again find no clear difference
in performance. Hence, it is fair to suggest that PSBs are catching up with private sector
banks when an appropriate comparison is attempted. In short, in the wake of deregulation,
PSBs have improved their performance in both absolute and relative terms.