Research In Focus
Innovation and entrepreneurship, activities critical for job creation and the economic growth of the country, are propelled by ‘alternate investments’, which comprise of private equity (PE) and venture capital (VC). While VC leads to innovation, PE eases the financial constraints that firms face. According to Prof. K. Subramanian, this fact is well recognised by policy makers and academic researchers alike.
To give due importance to alternate investments, the Alternative Investments Policy Advisory Committee has been set up under the chairmanship of industrialist N. R. Narayana Murthy. It is a high-power committee that makes recommendations directly to the Finance Minister and to the Chairman of the Securities and Exchange Board of India (SEBI) on regulatory changes in alternative investments. As a member of this Committee, Prof. Subramanian has been working in two key areas. Under policy making, he is benchmarking the information sharing on venture capital investments performance. And as part of academic research, he has been working on two projects involving public sector banks (PSBs):
- What are the effects of the turnover of chief executive officers (CEOs) in PSBs?
- What is the impact of the periodic transfer of employees on loan defaults?
Effect of CEO Turnover in PSBs
At the State Bank of India (SBI), when Pradeep Chaudhary took over from O. P. Bhatt as Chairman, he accepted a reduction in earning of almost 99%. What he primarily did was to increase provisioning significantly. In his research, Prof. Subramanian found that this practice was not a one-off phenomenon but was widely applied across PSBs. He discovered that provisioning in this manner reduces earnings in one go and enables the CEO to commence his tenure at a lower base salary. Since the tenure of CEO is short, he or she is able to show high performance over the tenure by having this backup. In private sector banks, with tenures being typically six to seven years, creating backups do not matter and such practices are rare.
Impact of Periodic Transfers of Employees on Loan Defaults
As per policy, probationary officers (POs) in PSBs are rotated every three years to prevent collusion between bank staff and clients. The practice has resulted in a few unintended consequences. Prof. Subramanian analysed data on agricultural loans of one-year duration disbursed by PSBs. He found that loans disbursed by POs in their first and second year of tenure had good recovery rates as against loans disbursed in their final year, which had an almost 30% higher default rate! This was due to good diligence and thorough screening of the borrower in loans disbursed when the responsibility for recovery lay with the PO. For loans disbursed in the third year, the responsibility for recovery would pass on to the next incumbent, and hence the laxity in recovering those loans — a typical case of ‘passing the buck’! Prof. Subramanian found that another drawback of this transfer policy was that the new PO treated clients who were disbursed loans by the previous incumbent as ‘favoured clients’ and made the disbursement of repeat loans much more difficult.
Prof. Krishnamurthy Subramanian has utilised a grant from the Alumni Endowment Fund to conduct academic research with tangible impact. The findings of his research have been submitted to the relevant authorities in the hope of sensitizing the management of these institutions to the issues and making PSBs more efficient in their dealings. Prof. Subramanian is one of the world’s leading experts in banking and economic policy. He currently serves as Associate Professor of Finance (with tenure) at the Indian School of Business.
About the writer
This article is written by Col Rajiv Bhargava, Associate Director, MIGM and Commercials at ISB.