The great Indian bank mergers have worked, a study by the Reserve Bank of India’s economists announced last month. The findings come three years after the government’s bank consolidation drive in FY20, which merged 10 public sector banks into four. The study probed the short and long-term impact of bank mergers undertaken since 1997 and concluded that, on average, mergers improved efficiencies. Specifically, the FY20 consolidation drive increased shareholders’ wealth of acquiring banks. But the jury is still out. Following liberalisation, India saw 40 bank mergers, of which 12 were between private and public sector banks, 16 among state-run banks and 12 between private and foreign banks. And the empirical evidence of the impact of bank mergers remains mixed. One private study found that mergers didn’t improve profitability, while another confirmed that mergers had limited efficiency gains. If some number crunchers confirmed bad loans of weak banks fell by 10% following FY20 banking consolidation, others contended that post-merger benefits were minimal.
Recent RBI findings contrast with others, partly due to methodological differences. Most studies based their analysis on the fact that acquired banks were more inefficient than acquirers, so mergers have been a drag on the efficiency of merged entities. The RBI paper does concede this premise but argues it hasn’t necessarily affected overall efficiencies. Unlike the widely used financial ratio analysis, the RBI study deployed data envelopment analysis. Its findings revealed that the average inefficiency of acquirer banks reduced from 9.12% pre-merger to 6.2% and 5.7%, three years and five years post-merger, respectively.
Historically, bank mergers helped reduce costs and maximise profits. Most European mergers during the 1990s improved competitiveness, while the US mergers saw economies of scale. In contrast, protecting distressed banks was a key motivation behind Indian bank mergers, regardless of whether they improved overall efficiency. As per RBI’s own findings, the financial ratio analysis of bank mergers during 1997–2017 found that acquirers had better financial health than their acquirees in the pre-merger period than the FY20 consolidation episode. Moreover, private bank mergers were always market-driven and with better yields. Lastly, even after consolidation, public sector banks’ stressed assets, credit profile, profitability metrics and, importantly, service quality, are miles away from that of private banks.