Narasimhan Committee - 1, Financial Reforms

In 1991, India was facing serious financial crisis. This included balance of payment crisis of the Indian Economy where India had to airlift gold to International Monetary Fund (IMF) to loan money to meet its financial obligations. The Government of India – post crisis, took several steps to modify the country’s economy policies. One such step was to set up the Narasimhan Committee to examine all aspects relating to the structure, organization, functions and procedure of the financial system.

The Narasimhan Committee(Committee on Financial System – CFS) was appointed by the then Finance Minister Dr Manmohan Singh under the chairmanship of Mr M Narasimhan, the 13^th Governor of RBI on 14^th August 1991. It was set up to analyze all factors related to financial system and give recommendations to improve productivity and efficiency of financial bodies. The committee submitted its report to the Finance Minister in November 1991. The committee’s report was tabled in Parliament on 17^th December 1991.

The main recommendations given by Narasimhan Committee – 1:

Reduction in CRR and SLR: The committee recommended the reduction of the rates of CRR (Cash Reserve Ratio) and SLR (Statutory Liquidity Ratio). The CRR and SLR were very high at that time. The CRR was 15% and LSR was 38.5%. The committee recommended that the value of CRR should be 3% to 5% and the value of LSR should be 25% . High rates of CRR and LSR means blockage of banking resources for government use. Reduction in rates would allow the banks to deploy them in remunerative loan assets.
Phasing out Directed Credit Program: The main purpose of directed credit program is to extend the reach of banking system to poor and neglected sector of economy. Since nationalization of banks in India, the directed credit program was adopted and it increased steadily.The committee recommended to lower the directed credit target to 10% . It also recommended to redefine the priority sectors. This program was affecting the profitability of the banks hence the committee recommended to phase out this program.
Interest Rates Deregulations: The committee recommended the deregulation of the interest rates, so that the banks can themselves set the interest rates for their customers. The committee felt that the interest rates should not be regulated and controlled by agencies. Hence committee recommend elimination of government controls on interest rates. The commission also recommended phasing out Concessional interest rates.
Structural Recognizations of Banks: The committee recommended that banking should evolve towards a broad pattern consisting of three or four large banks, including the SBI which would become international in character; eight to ten national banks with the network of branches throughout the country engaged in universal banking; local bank whose operations would be generally confined to a specified region and lastly rural banks to cater to rural areas. It recommended that the Regional Rural Banks should focus on agriculture and rural financing. They also recommended that the government should give assurance that there would be no further nationalization of banks and the foreign and private banks should be allowed liberal entry in India.
Asset Reconstruction Fund: The committee recommended that there should be an Assets Reconstruction Fund (ARF) which could take over, from the banks and financial institution (FIs), a portion of their bad debts at a discount. The level of discount being determined by independent auditors on the basis of clearly defined guidelines. The ARF, according to committee should be provided with special powers for recovery, somewhat broader than those contained in sections 29 to 32 of the state financial act 1951. The capital of ARF should be subscribed by the public sector banks and financial institutions. They also recommended that the banks and the financial institutions should be authorised to recover bad debts through special tribunals and based on the valuation given in respect of each asset by a panel of at least two independent auditors.
Gain from Capital Market: The committee recommended that the public sector banks with profitable operations should be allowed to tap the capital market for enhancement of their share capital. Subscribers to such issues could be mutual funds, profitable public sector undertakings and the employees of the institutions beside the general public.
Removal of License System: Licensing should be abolished and the option of opening of branches for the present should be left to the commercial judgement of individual banks. Further, the internal organisation of banks is best left to judgement of the management of the individual bank.RBI representatives should not be included in the management boards of banks, only government representative should be there.
Abolition of Dual Control: The dual control of RBI and Finance Ministry on banks should be abolished and RBI should function only as regulatory authority for banking system in the Economy.

Actions taken by the Government on Recommendations:

The Statutory Liquidity Ratio (SLR) was reduced from 38.5% to 28% within five years by December 1996.
The Cash Reserve Ratio (CRR) was reduced 10% in January 1997.
The new risk asset system was introduced by RBI in 1992 for all banks in India as capital adequacy manner. It was called as CRAR (Capital to Risk Weighted Asset Ratio). It was decided that the banks would have to achieve 8% of CRAR.
Some strong banks were allowed to seek access of capital markets. The weaker banks were recapitalized via budgetary support.
Rapid computerization of banks took place.
Banks were given freedom to open new branches and also allowed to close non-viable branches other than in rural areas.
Recovery of debts due to banks and the Financial Institution (RDDBFI) Act 1993 was enacted by the government to facilitate quicker recovery of loans and arrears. Accordingly 6 special Debt Recovery Tribunals were set up along with an Appellate Tribunal at Mumbai to expedite the recovery of bank loan arrears.
In 1995, Banking Ombudsman scheme was launched with an objective to provide quicker solution to customers'complaints.
Agreement was signed between the public sector bank and RBI to improve their managerial and quality of performance.
Supervision system of the RBI was being strengthened with establishment of new board for Financial Bank Supervision within the RBI.