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Financial reform in India: time for a second wave?

The Indian financial system has changed considerably since the 1990s. Interest rates have been deregulated and new entrants have been allowed in the banking and the securities business. The Indian equity market has become world-class, while new private banks have emerged that are more customer-oriented than the older state-owned banks. Meanwhile, the scale of saving within the economy has expanded considerably, much as in East Asian economies during their high-growth period. This adds to the need for further financial-sector reform. In particular, banks need much greater freedom in asset allocation. While public-sector banks did appear sounder to the public during the 2007-08 crisis due to implicit government backing, they ought to be privatised to improve their governance and minimise the recurrent need for recapitalisation. The remaining obstacles to new entry have to be reduced. Financial inclusion is an important priority and restrictions on microfinance should be avoided. The regulatory and legal framework also needs to be overhauled, consolidating the diverse legislation. While such reforms would improve financial sector efficiency they would also likely have positive spillover effects on the rest of the economy and help sustain rapid growth.

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