The Indian banking system is the backbone of India’s financial stability, economic growth, and social inclusion. It performs the vital function of intermediating between savers and borrowers, promotes government monetary policy, and accelerates financial inclusion.
The system has evolved from primarily public sector banks to a multi-tiered structure dominated by public sector banks, private banks, regional rural banks, cooperative banks, payment banks, and NBFCs, regulated by the Reserve Bank of India (RBI) and guided by government reforms aimed at efficiency and global competitiveness.
Structure of the Indian Banking System
- Reserve Bank of India (RBI): Apex monetary and regulatory authority.
- Scheduled Commercial Banks (SCBs): Approximately ₹229.13 lakh crore in total assets (as of March 2025).
- Public Sector Banks (PSBs): 12 banks accounting for ~60% of banking assets.
- Private Sector Banks: Approximately 22 banks with ~32% assets.
- Foreign Banks: ~46 branches with specialized services.
- Regional Rural Banks (RRBs): 38 banks serving semi-urban and rural areas.
- Cooperative Banks: Urban and rural cooperative credit societies.
- Specialized Banks:
- Payment Banks: Focused on payments and financial inclusion (e.g., Airtel Payments Bank, NITI Aayog-led initiatives).
- Small Finance Banks (SFBs): Credit delivery to underserved populations.
- Non-Banking Financial Companies (NBFCs): Credit provision and microfinance entities.
Recent Performance Data and Trends (Year 2024-25)
- Deposit Base: ₹217.33 lakh crore (14.1% Year-on-Year growth).
- Credit (Advances): ₹171.42 lakh crore (19.1% growth).
- Gross Non-Performing Assets (GNPA): 2.7%, lowest in 13 years indicating improved loan quality.
- Profitability: Banks’ net profits increased by 32.8% in FY 2023-24.
- Inflation Targeting: 2025 Position: RBI reaffirmed commitment to the 4% target, cautioning against raising it, emphasizing credibility built over a decade.
- Monetary Policy Indicators: June 2025 repo rate stands at 5.50%; reverse repo at 3.35% reflecting accommodative policy amid moderating inflation.
Bank Mergers, Privatisation, and Financial Inclusion
Bank Merger
- Bank Merger is a process where two or more banks agree to combine their operations, assets, liabilities, and organizational structures to form a single entity, typically with one designated as the “Anchor Bank” absorbing one or more smaller banks.
- Mechanism: Involves combining assets, liabilities, operations, staff, and customers to achieve operational efficiency and competitive strength.
- Objectives: Achieving economies of scale, improving capital adequacy, expanding lending capacity, enhancing competitiveness, and reducing NPAs.
- Merger process overseen by RBI and Government of India andgoverned by Banking Regulation Act, 1949 and Companies Act, 2013.
- Example: The merger of Punjab National Bank with Oriental Bank of Commerce and United Bank of India.
Bank Privatisation
- Privatisation refers to the transfer of ownership and management of public sector banks from the government to private entities.
- Key Characteristics:
- Government reduces shareholding from >50% to <50%.
- Management autonomy shifts to private board and professionals.
- Profit motive becomes central while balancing regulatory requirements.
- Bank operates under market discipline and competitive pressures.
- Currently, banks like Punjab & Sind Bank and Bank of Maharashtra are under consideration for privatisation.
- Example: When the government disinvests stake in IDBI Bank (government 45%, LIC 49.24% as of 2024), the bank transitions from PSB to likely private ownership once government stake falls below 50%.
Financial Inclusion
Financial Inclusion means providing affordable, timely access to quality financial products and services (like banking, credit, insurance, and payments) to all individuals and businesses—especially the underserved and vulnerable.
- It promotes economic participation, poverty reduction, and equity.
- Government and RBI initiatives: Jan Dhan Yojana, Kisan Credit Cards, mobile banking platforms.
- Financial literacy and digital infrastructure focus to deepen inclusion.
- Enhanced inclusion reduces poverty, empowers women, improves health and education.
- India’s initiatives like PMJDY have opened over 34 crore accounts, improving financial penetration.
- RBI’s Financial Inclusion Index reached 67 in 2025, reflecting substantial progress but also ongoing gaps.
Challenges of the Indian Banking System
- High Non-Performing Assets (NPAs) and Stressed Assets
- Concentrated in infrastructure, MSMEs, and agriculture sectors.
- Example: Punjab National Bank (PNB) fraud, ₹14,000 crore, 2018.
- Impacts credit growth, profitability, and financial stability.
- Capital Adequacy Constraints
- Many Public Sector Banks (PSBs) rely on government recapitalisation to meet Basel III norms.
- Example: Recapitalisation bonds (2017 onwards) temporarily relieved capital shortage.
- Low capital limits lending capacity and risk absorption.
- Governance and Autonomy Issues
- Political interference and weak board independence reduce professional management efficiency.
- Example: Delay in board appointments and interference in credit allocation.
- Digital and Cybersecurity Risks
- Rapid digital banking penetration exposes banks to cyber fraud.
- Example: UPI frauds 2024, prompting RBI advisories.
- Financial Inclusion Gaps
- ~20% of rural adults remain unbanked despite PMJDY and Kisan Credit Cards.
- Infrastructure deficits and low digital literacy limit access.
- Example: Villages in Jharkhand, Chhattisgarh, and northeast India.
- External and Macroeconomic Risks
- Events like pandemics, economic slowdowns, commodity price volatility, or global financial shocks affect loan recovery.
- Example: COVID-19 2020 loan moratoriums increased NPAs.
- Climate and Sectoral Risks
- Agriculture and infrastructure loans affected by droughts, floods, and climate events.
- Legacy Issues in PSBs
- Operational inefficiency, outdated technology, and overstaffing reduce competitiveness.
Way Forward
1. Strengthening Asset Quality & Risk Management
- Expected Credit Loss (ECL) Regime: Transition from the Incurred Loss to the ECL provisioning model (by April 2027) for proactive provisioning against potential losses, improving balance sheet resilience.
- Deepening the IBC Process: Expedite resolution timelines at NCLTs by increasing bench strength and infrastructure. Strengthen NARCL and IDRCL to aggregate and resolve large legacy NPAs.
- Public Credit Registry (PCR): Implement a comprehensive PCR to capture all loan information, enabling risk-based pricing and better credit appraisal to curb over-lending and fraud.
2. Governance and Capital Augmentation
- Enhanced PSB Autonomy and Governance: Implement the P.J. Nayak Committee recommendations, including reducing the government’s stake in PSBs (below 51%, eventually below 33%) to professionalise management. Empower the FSIB (erstwhile BBB) to strengthen top management selection and ensure board independence.
- Market-Based Recapitalization: Shift the funding focus from government infusion to banks raising capital via equity issues and Additional Tier 1 (AT-1) bonds from the market.
- Risk-Based Deposit Insurance: Implement the Risk-Based Premium for deposit insurance (by DICGC), where stronger banks pay lower premiums, incentivizing prudent risk management.
3. Digital, FinTech Integration, and Cybersecurity
- Responsible AI and ML Adoption: Encourage integration of Generative AI for efficiency and fraud detection, ensuring AI models are transparent and auditable (avoiding “black box” decisions) to prevent bias.
- Open Banking and API Integration: Promote the Account Aggregator (AA) framework for secure, consent-based financial data sharing, fostering innovation, particularly for MSME credit.
- Strengthening Cyber Resilience: Mandate continuous, advanced cybersecurity audits and create a Digital Payments Intelligence Platform (as proposed by RBI) to combat the rising threat of UPI and digital frauds. Proactive investment in IT infrastructure is essential.
4. Structural Depth and Market Development
- Create Global-Scale Banks: Continue PSB consolidation to create 3-4 mega banks capable of financing large infrastructure projects and competing globally, aligning with the “Viksit Bharat 2047” vision.
- Deepen the Corporate Bond Market: Shift financing from a bank-led to a market-led system. This requires harmonizing RBI and SEBI regulations and leveraging instruments like the Corporate Debt Market Development Fund (CDMDF) for liquidity.
- Strengthen NBFCs (Shadow Banking): Effectively implement the Scale-Based Regulation (SBR) framework to ensure regulation is proportional to the systemic risk posed by large Upper Layer NBFCs, while preserving their operational flexibility in niche lending.
5. Financial Inclusion and Internationalization
- Grameen Credit Score and Targeted Credit: Develop specialized tools like the proposed Grameen Credit Score to assess the creditworthiness of rural borrowers and SHG members, ensuring formal credit reaches the last mile.
- Internationalizing the Rupee: Strategically allow Indian banks to lend in Rupees to institutions in neighbouring countries and expand the list of currencies for forex benchmarking to reduce dollar dependence and enhance the Rupee’s regional financial influence.
- ESG Integration: Develop a Sustainable Finance Roadmap requiring banks to integrate Environmental, Social, and Governance (ESG) criteria into lending decisions for large projects, managing climate risk and promoting responsible growth.
Global Best Practices to Emulate
| Aspect | Global Practice | Recommended for India |
| Asset Quality | Singapore’s AQR (Asset Quality Review) | Early detection and transparent provisioning |
| Capital Stress Testing | US Federal Reserve’s CCAR | Annual stress tests and capital planning |
| Cybersecurity | European Central Bank’s resilience framework | Continuous cybersecurity audits and robust safeguards |
| Financial Inclusion | Kenya’s M-Pesa mobile banking success | Mobile-first rural banking and microfinance |
| Governance | UK Prudential Regulation Authority (PRA) | Independent boards and stricter regulatory oversight |
Conclusion
The Indian banking system is at a critical juncture—balancing traditional strengths with emerging challenges. Reforms like strategic bank mergers, carefully planned privatisation, financial inclusion advancements, and strong monetary policy create a robust foundation for growth.
Addressing challenges such as asset quality, governance, and digital risks through a mix of domestic initiatives and global best practices will be key to ensuring a resilient, inclusive, and competitive banking sector capable of powering India’s $5 trillion economy vision and beyond.
