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Raghuram Rajan plans ‘dramatic remaking’ of India’s banks

Raghuram Rajan, governor of the Reserve Bank of India.
Dhiraj Singh | Bloomberg | Getty Images
Raghuram Rajan, governor of the Reserve Bank of India.

India's central bank governor, Raghuram Rajan, has promised to carry out a "dramatic remaking" of the country's banking sector as he seeks to introduce a new era of competition in Asia's third-largest economy.

The recently-appointed head of the Reserve Bank of India said there would be an expanded role for foreign banks, more licences for domestic companies and a push to shake-up the state-backed lenders.

(Read more: India may find few takers for new foreign bank rules)

"I see over the next few years a dramatic remaking of the banking landscape," he said in an interview with the Financial Times. "Both from the . . . new banks which are going to come on board and the foreign banks which are going to be allowed to expand more freely. It will be a multiplier in terms of competition."

Earlier this month Mr Rajan published new rules liberalizing the treatment of foreign banks alongside plans to issue the country's first new banking licences in a decade next year, as part of far-reaching reforms of Indian financial services.

International outfits such as Standard Chartered and HSBC account for only about 6 percent of Indian bank assets but Mr Rajan said the RBI's new rules provided a "huge" opportunity to grow by expanding into areas such as trade finance and even to "take over Indian banks at some point".

The RBI also plans to grant more regular licences for a broader range of financial institutions, providing what Mr Rajan described as a "substantial change" to bank structures.

"We could have wholesale banks, we could have mobile [phone] companies doing some banking activities, within certain constraints. We could have small banks, which we currently don't allow, and we could allow co-operative banks," Mr Rajan said.

(Read more: The 'sexy' central banker who's causing a stir)

The measures are part of what could become one of the most far-reaching attempts to free India's banks from the morass of state controls introduced after Indira Gandhi nationalized many private banks when she was prime minister in the late 1960s.

Over the past two decades the banking sector has been opened gradually to competition. As of last year, about a fifth of the country's Rs96 trillion ($1.5 trillion) in bank assets were controlled by Indian private sector institutions.

The RBI's newly liberal approach is conditional on international banks setting up separately capitalized local subsidiaries, with the regulator in return promising to lift restrictions on their expansion, including previous limits on opening new retail branches.

More from the Financial Times:

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In private, some foreign bankers have expressed skepticism about the new regulations, which come with expensive obligations to lend to poorer customers, as part of a wider RBI attempt to bring financial services to India's vast "unbanked" population.

But Mr Rajan plans to offer reassurances to foreign players about the costs involved in making the transition to the proposed new structure. "I would like some of them to do it and I think some of them will," he said.

The RBI also plans to overhaul rules relating to state-backed banks, which control roughly three-quarters of lenders' assets, partly by encouraging swifter recognition of bad corporate assets, which have hampered the financial system during India's economic slowdown.

(Read more: Raghuram Rajan: India's deficit is under control)

"I would like to see the public sector banks up their game, given the heightened competition [from the private sector]," Mr Rajan says. "We need to clean up the bad loans. But at the same time cleaning up bad loans shouldn't be seen as a witch-hunt, where you are going after everybody and this country's not open for business."

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