Narasimham Committee -II

The Narasimham Committee – II: Reshaping India’s Financial Landscape

The Indian financial sector, in the early 1990s, was characterized by a complex web of regulations, inefficient institutions, and a lack of competition. This stifled innovation, limited access to credit, and hampered economic growth. Recognizing the need for a radical overhaul, the Indian government appointed the Narasimham Committee – II in 1998, under the chairmanship of Dr. M. Narasimham, a renowned economist and former Governor of the Reserve Bank of India (RBI). This committee was tasked with examining the financial sector reforms initiated by the first Narasimham Committee (1991) and recommending further measures to strengthen the sector and promote financial stability.

The Context: Building on the First Narasimham Committee’s Legacy

The first Narasimham Committee, established in 1991, played a pivotal role in laying the foundation for India’s financial sector reforms. Its recommendations, implemented in the early 1990s, led to significant changes, including:

• Deregulation of interest rates: This allowed banks to set their own interest rates, fostering competition and efficiency.
• Introduction of prudential norms: These norms aimed to strengthen bank capital adequacy and risk management practices.
• Establishment of the Securities and Exchange Board of India (SEBI): This regulatory body was created to oversee the securities market and protect investor interests.
• Privatization of public sector banks: This aimed to improve efficiency and introduce market discipline.

However, the financial sector continued to face challenges, including:

• High levels of non-performing assets (NPAs): These were a major concern for banks, impacting their profitability and lending capacity.
• Weak regulatory framework: The existing regulatory framework was inadequate to address the evolving financial landscape.
• Limited access to financial services: Many segments of the population, particularly in rural areas, lacked access to basic financial services.

The Narasimham Committee – II was tasked with addressing these challenges and building upon the foundation laid by its predecessor.

Key Recommendations of the Narasimham Committee – II

The Narasimham Committee – II submitted its report in 1998, outlining a comprehensive set of recommendations aimed at further strengthening the financial sector. These recommendations covered various aspects, including:

1. Strengthening the Banking Sector:

• Mergers and Acquisitions (M&A): The committee recommended promoting consolidation in the banking sector through mergers and acquisitions to create larger, more efficient banks with greater capital adequacy and a wider reach.
• Strengthening Bank Capital: The committee emphasized the need for banks to maintain adequate capital buffers to absorb potential losses and ensure financial stability.
• Improving Asset Quality: The committee recommended measures to address the issue of NPAs, including stricter loan recovery mechanisms and improved risk management practices.
• Promoting Financial Inclusion: The committee highlighted the need to expand access to financial services for the underprivileged, particularly in rural areas, through initiatives like microfinance and mobile banking.

2. Reforming the Regulatory Framework:

• Strengthening the RBI: The committee recommended enhancing the RBI’s supervisory and regulatory powers to effectively oversee the financial sector.
• Developing a Comprehensive Regulatory Framework: The committee emphasized the need for a comprehensive regulatory framework that addressed the evolving financial landscape, including new financial products and institutions.
• Promoting Financial Stability: The committee recommended measures to enhance financial stability, including strengthening the payment and settlement systems and improving crisis management mechanisms.

3. Developing the Capital Market:

• Promoting Market Depth and Liquidity: The committee recommended measures to deepen and broaden the capital market, including promoting institutional investors and developing new financial instruments.
• Strengthening Investor Protection: The committee emphasized the need to strengthen investor protection mechanisms and enhance market transparency.
• Developing the Infrastructure: The committee recommended investments in infrastructure, including technology and human resources, to support the growth of the capital market.

4. Enhancing Financial Sector Infrastructure:

• Developing a Robust Payment and Settlement System: The committee recommended investments in technology and infrastructure to create a secure and efficient payment and settlement system.
• Promoting Electronic Banking: The committee encouraged the adoption of electronic banking channels to enhance efficiency and reach.
• Developing Financial Sector Expertise: The committee emphasized the need for skilled professionals in the financial sector and recommended initiatives to enhance human capital development.

Impact of the Narasimham Committee – II Recommendations

The recommendations of the Narasimham Committee – II had a significant impact on the Indian financial sector, leading to:

• Consolidation in the Banking Sector: The committee’s recommendations led to a wave of mergers and acquisitions in the banking sector, resulting in the creation of larger, more efficient banks with greater capital adequacy.
• Improved Asset Quality: Banks implemented stricter loan recovery mechanisms and improved risk management practices, leading to a gradual decline in NPAs.
• Enhanced Regulatory Framework: The RBI strengthened its supervisory and regulatory powers, and a more comprehensive regulatory framework was developed to address the evolving financial landscape.
• Increased Financial Inclusion: Initiatives like microfinance and mobile banking expanded access to financial services for the underprivileged, particularly in rural areas.
• Development of the Capital Market: The capital market witnessed significant growth, with increased market depth and liquidity, and the development of new financial instruments.

Table 1: Key Recommendations of the Narasimham Committee – II

Challenges and Future Directions

Despite the significant progress made, the Indian financial sector continues to face challenges, including:

• High levels of NPAs: While NPAs have declined, they remain a concern for banks, particularly in the context of economic slowdown and stressed sectors.
• Limited access to credit: Many small and medium enterprises (SMEs) still face difficulties in accessing credit, hindering their growth potential.
• Financial literacy: Low financial literacy levels among the population limit their ability to access and utilize financial services effectively.
• Cybersecurity threats: The increasing reliance on technology in the financial sector exposes it to cybersecurity threats, requiring robust security measures.

To address these challenges and further strengthen the financial sector, future initiatives should focus on:

• Promoting financial inclusion: Expanding access to financial services for all segments of the population, particularly in rural areas, through innovative products and delivery channels.
• Strengthening financial literacy: Implementing programs to enhance financial literacy among the population, enabling them to make informed financial decisions.
• Improving access to credit: Facilitating access to credit for SMEs, particularly through alternative lending models and credit guarantee schemes.
• Addressing NPAs: Implementing effective strategies to resolve NPAs, including asset reconstruction companies and debt recovery mechanisms.
• Enhancing cybersecurity: Investing in robust cybersecurity measures to protect the financial sector from cyber threats.

Conclusion

The Narasimham Committee – II played a crucial role in shaping the Indian financial sector, building upon the foundation laid by its predecessor. Its recommendations led to significant reforms, resulting in a more robust, efficient, and inclusive financial sector. However, the sector continues to face challenges, and future initiatives should focus on addressing these challenges and further strengthening the financial sector to support India’s economic growth and development. The legacy of the Narasimham Committee – II continues to guide the evolution of the Indian financial sector, ensuring its resilience and contribution to the nation’s progress.

Frequently Asked Questions on Narasimham Committee – II

1. What was the primary objective of the Narasimham Committee – II?

The Narasimham Committee – II was tasked with examining the financial sector reforms initiated by the first Narasimham Committee (1991) and recommending further measures to strengthen the sector and promote financial stability. It aimed to address the remaining challenges in the banking sector, improve the regulatory framework, and further develop the capital market.

2. When was the Narasimham Committee – II formed and what was its composition?

The Narasimham Committee – II was formed in 1998 under the chairmanship of Dr. M. Narasimham, a renowned economist and former Governor of the Reserve Bank of India (RBI). The committee comprised experts from various fields, including banking, finance, and economics.

3. What were some of the key recommendations of the Narasimham Committee – II?

The committee recommended a comprehensive set of reforms, including:

• Consolidation in the banking sector: Promoting mergers and acquisitions to create larger, more efficient banks.
• Strengthening bank capital: Encouraging banks to maintain adequate capital buffers to absorb potential losses.
• Improving asset quality: Implementing stricter loan recovery mechanisms and improving risk management practices to address NPAs.
• Promoting financial inclusion: Expanding access to financial services for the underprivileged, particularly in rural areas.
• Strengthening the RBI: Enhancing the RBI’s supervisory and regulatory powers to effectively oversee the financial sector.
• Developing a comprehensive regulatory framework: Addressing the evolving financial landscape, including new financial products and institutions.
• Promoting financial stability: Strengthening the payment and settlement systems and improving crisis management mechanisms.
• Developing the capital market: Promoting market depth and liquidity, strengthening investor protection, and developing infrastructure.

4. What was the impact of the Narasimham Committee – II recommendations?

The committee’s recommendations led to significant changes in the Indian financial sector, including:

• Consolidation in the banking sector: A wave of mergers and acquisitions resulted in the creation of larger, more efficient banks.
• Improved asset quality: Banks implemented stricter loan recovery mechanisms and improved risk management practices, leading to a gradual decline in NPAs.
• Enhanced regulatory framework: The RBI strengthened its supervisory and regulatory powers, and a more comprehensive regulatory framework was developed.
• Increased financial inclusion: Initiatives like microfinance and mobile banking expanded access to financial services for the underprivileged.
• Development of the capital market: The capital market witnessed significant growth, with increased market depth and liquidity, and the development of new financial instruments.

5. What are some of the challenges that the Indian financial sector still faces?

Despite the progress made, the Indian financial sector continues to face challenges, including:

• High levels of NPAs: While NPAs have declined, they remain a concern for banks, particularly in the context of economic slowdown and stressed sectors.
• Limited access to credit: Many small and medium enterprises (SMEs) still face difficulties in accessing credit, hindering their growth potential.
• Financial literacy: Low financial literacy levels among the population limit their ability to access and utilize financial services effectively.
• Cybersecurity threats: The increasing reliance on technology in the financial sector exposes it to cybersecurity threats, requiring robust security measures.

6. What are some of the future directions for the Indian financial sector?

To address the remaining challenges and further strengthen the financial sector, future initiatives should focus on:

• Promoting financial inclusion: Expanding access to financial services for all segments of the population, particularly in rural areas, through innovative products and delivery channels.
• Strengthening financial literacy: Implementing programs to enhance financial literacy among the population, enabling them to make informed financial decisions.
• Improving access to credit: Facilitating access to credit for SMEs, particularly through alternative lending models and credit guarantee schemes.
• Addressing NPAs: Implementing effective strategies to resolve NPAs, including asset reconstruction companies and debt recovery mechanisms.
• Enhancing cybersecurity: Investing in robust cybersecurity measures to protect the financial sector from cyber threats.

7. How does the Narasimham Committee – II compare to the first Narasimham Committee?

While both committees aimed to reform the Indian financial sector, the Narasimham Committee – II focused on building upon the foundation laid by the first committee. It addressed the remaining challenges, further strengthened the regulatory framework, and promoted financial inclusion and stability. The second committee’s recommendations were more comprehensive and addressed the evolving financial landscape.

8. What is the significance of the Narasimham Committee – II in the context of Indian economic reforms?

The Narasimham Committee – II played a crucial role in shaping the Indian financial sector, contributing to the overall economic reforms initiated in the 1990s. Its recommendations led to a more robust, efficient, and inclusive financial sector, supporting India’s economic growth and development. The committee’s legacy continues to guide the evolution of the Indian financial sector, ensuring its resilience and contribution to the nation’s progress.

Here are a few multiple-choice questions (MCQs) on the Narasimham Committee – II, with four options each:

1. When was the Narasimham Committee – II formed?

a) 1991
b) 1993
c) 1998
d) 2001

Answer: c) 1998

2. Who was the chairman of the Narasimham Committee – II?

a) Dr. Manmohan Singh
b) Dr. C. Rangarajan
c) Dr. M. Narasimham
d) Dr. Y.V. Reddy

Answer: c) Dr. M. Narasimham

3. Which of the following was NOT a key recommendation of the Narasimham Committee – II?

a) Promoting mergers and acquisitions in the banking sector
b) Strengthening bank capital adequacy
c) Introducing a new currency for India
d) Developing a comprehensive regulatory framework for the financial sector

Answer: c) Introducing a new currency for India

4. What was the primary objective of the Narasimham Committee – II?

a) To privatize all public sector banks
b) To introduce a fixed exchange rate system
c) To strengthen the financial sector and promote financial stability
d) To nationalize all private sector banks

Answer: c) To strengthen the financial sector and promote financial stability

5. Which of the following was a significant impact of the Narasimham Committee – II recommendations?

a) A decline in non-performing assets (NPAs) in banks
b) The introduction of a gold standard for the Indian rupee
c) The establishment of the Securities and Exchange Board of India (SEBI)
d) The nationalization of all banks in India

Answer: a) A decline in non-performing assets (NPAs) in banks

6. Which of the following is a challenge that the Indian financial sector still faces?

a) Lack of access to credit for small and medium enterprises (SMEs)
b) A surplus of capital in the banking system
c) A strong and stable currency
d) A lack of regulatory oversight

Answer: a) Lack of access to credit for small and medium enterprises (SMEs)

7. What is the significance of the Narasimham Committee – II in the context of Indian economic reforms?

a) It led to the complete privatization of the Indian economy
b) It introduced a socialist economic model in India
c) It played a crucial role in strengthening the financial sector and supporting economic growth
d) It led to the devaluation of the Indian rupee

Answer: c) It played a crucial role in strengthening the financial sector and supporting economic growth