Sharad Kumar and M. Sreeramulu*

JEL Classification  :   G21

Keywords                 :   Employees’ cost and Employees’ productivity, Traditional and Modern banks, Gap Index

Introduction

The public sector and the existing private sector banks (old private sector banks) faced challenges in the form of competitive pressures and changing customer demands both from foreign banks and new private sector banks. Most of the public sector and old private sector banks (classified as traditional banks for the purpose of present study) had their existence for more than a century with a number of legacy issues to tackle. While the new private sector banks could adopt the best practices and implement latest technology in their operations, the foreign banks acquired the practices and technology akin to their host countries within the regulatory framework of India. Influenced by the varied practices and culture of host countries, this segment of banks operating in India was found to be quite heterogeneous in their operations and performance.

Faced with the threat of competition from the foreign and new private sector banks (classified as modern banks), the traditional banks employed a number of measures to improve the operational efficiency, meeting customer expectations and reduction of operating costs. These include going for fully automated systems (Core Banking Solution based operations) preceded with business process reengineering (BPR), offering VRS to its employees, training and retraining of staff, lateral recruitment of specialists, emphasis on marketing, advertising, customer relationship management and improving brand image, diversification of activities, introduction of electronic based multiple service delivery channels, setting up of back offices and data centers, business process outsourcing. Some of these banks have undergone restructuring exercise with the involvement of international consulting agencies to adopt best international practices and remove bottlenecks in their operations.

The paper is organized in five sections. Section I provides a survey of literature. Objective of the study is discussed in Section II. Section III presents the data and methodology. Analysis of data is discussed in section IV. Finally concluding observations of the study are presented in section V.

Data and Methodology

The time series data on the selected variables/ratios viz. ‘business per employee’, ‘profit per employee’, ‘employee cost to operating expenses’, ‘employee cost to total business’, and ‘employee cost to total assets’ have been extracted from the publications ‘Statistical Tables relating to Banks’ and Trend and Progress of Banks in India published by Reserve Bank of India. Detailed definitions of employees’ productivity and employees’ Cost ratios are given in the Annex A.

Employees’ Productivity:

It may be observed from the above Table 1 and Chart I-A that the business per employee for traditional banks is continuously improving during the period of 12 years under study. It has increased 7.29 times (Rs. 75.28 lakhs to Rs. 549.21 lakhs) from 1997 to 2008. In case of modern banks the business per employee has increased only 3.06 times during the same period (less than half compared to the increase for traditional banks). It has, however, marginally declined during 1999, 2001, 2002, 2005 and 2007 compared to the previous years in respect of modern banks. The ratios of business per employee between modern and traditional banks have decreased drastically from 5.28 times in 1997 to 2.21 times in 2008 indicating that the gap in business per employee between modern banks and traditional banks is consistently reducing due to the efforts made by the traditional banks.

Employee Cost Ratios

The Employees’ Cost Ratios which are represented by “employee cost to operating expenses”, “employee cost to total business’’ and “employee cost to total assets” are based on the wage bill data of individual banks. Banks have been treating them as critical factors for improving profitability and trying to minimize them in relation to operating expenses, total business and total assets. The employees’ cost in relation to these variables for the 12 years period under study in respect of traditional and modern banks is presented in Table 2 and Charts II-A, II-B and II-C below. (Detailed bank group-wise data on these parameters is also given in annex B)

From Table 2 and the Graph II-A it may be observed that the employee cost as a ratio of operating expenses in respect of traditional banks remained more or less constant from 1997 to 2002 and thereafter got reduced gradually. In case of modern banks, the ratio fluctuated within a narrow range and reduced marginally up to the year 2006 before showing upward trend during 2007 & 2008. The employee cost to operating expenses for traditional banks remained more than double of modern banks till 2006, however, this ratio decreased significantly during 2007 & 2008 (1.77 and 1.65 times respectively), indicating that efforts made by the traditional banks to reduce the wage bills in relation to operating cost made an impact during recent period.

As regards employee cost to total business, it has been consistently reducing for the traditional banks from 1.45 per cent in 1997 to 0.68 per cent in 2008. On the other hand, it has been increasing for modern banks in a very narrow range from 0.57 per cent to 0.64 per cent up to 2004, thereafter increased drastically to 1.23 per cent in 2005 and again reduced to 0.88 per cent in 2008. Employee cost to total business in respect of modern banks, which remained significantly lower compared to traditional banks up to 2004, overtook the traditional banks for last 4 years of the study period. This trend clearly indicates that the traditional banks have reached to the level where they can very well compete with the modern banks as regards to the marginal cost of expanding new business (deposits plus advances).

Gap Index Analysis

The Gap Index has been defined as the percentage of difference of the value of variables between modern banks (MB) and traditional banks (TB) as a ratio of their aggregate value. For example the Gap Index of Business Per Employee (BPE) can be worked out as:

BPE(MB) - BPE(TB)
-------------------------------X 100
BPE(MB) + BPE(TB)

For cost related variables the cost of modern banks have been subtracted from the traditional banks to get the positive value as the value is expected to be lower for modern banks compared to the traditional banks. Table 3 below gives the gap indices of 5 variables under study.

It may be observed from Table 3 above and the Charts III-A and Graph III-B that the gaps between modern and traditional banks on all employee cost ratios have been coming down consistently from 1997 to 2008. The percentage reduction was highest (129 per cent) in case of employee cost to total business, which has drastically come down and assumed negative value from 2005 to 2008. The gap between traditional and modern banks in respect of employee cost to total assets reduced significantly from 43.41 in 1997 to 2.13 in 2008 (95.09 per cent reduction). In the case of employee productivity ratios, business per employee, the gap between traditional and modern banks reduced significantly from 68.15 in 1997 to 29.86 in 2008 (56.18 per cent). The gap in respect of profit per employee between traditional and modern banks was reduced from 83.84 to 64.18 (23.45 per cent) during the same period. However, the gap in absolute terms as at end March 2008 is still high in respect of business per employee (29.86), profit per employee (64.18) and employee cost to operating expenses (24.53). Thus, the traditional banks have to continue to take further steps to improve their productivity and cost reduction efforts for competing with the modern banks. It will be interesting to monitor the trend of gap indices by the banks in future to get an idea about the existing gaps between modern and traditional banks.

Concluding Observations

While comparing the 12 year’s data from 1997 to 2008 on productivity factors viz. ‘Business per Employee’ (BPE) and ‘Profit per Employee’ (PPE) and employee cost factors viz. ‘Employee Cost to total Business’, ‘Employee Cost to total Assets’ and ‘Employee Cost to Operating Expenses’ it was observed that the performance of the modern banks (foreign and new private sector banks) was much superior than the traditional banks (public sector and old private sector banks). However, the gap between the performance of modern and traditional banks on all the five variables has shown a decreasing trend, which has significantly reduced during the period of 12 years under study.

The impact of measures taken by traditional banks to meet the challenges from modern banks to improve operational efficiency has resulted in improved performance of traditional banks on all the factors studied. However, the performance of the traditional banks is still quite below compared to the modern banks on these variables except on ‘Employee Cost to total Business’ in which the traditional banks have surpassed the modern banks during recent period i.e from 2005 to 2008.

The traditional banks are still to resolve a number of legacy issues related to people and processes for improving the productivity and reducing cost in order to compete with the modern banks.

References

● Nag. A. K and Shivaswamy. K (1990), Foreign Banks in India – Recent Performance, Reserve Bank of India Occasional Papers, Vol. 11, No. 4, December, pp 297-328
● Rakesh Mohan (2005), Reforms, Productivity and Efficiency in Banking, The Indian Experience, Address Delivered at the 21^st Annual General Meeting and Conference of the Pakistan Society of Development Economists at Islamabad in December 2005.
● Reserve Bank of India (1975), Report of the Study Group to Frame Guidelines to Banks for the Follow-up Credit, (Tandon Committee).
● Reserve Bank of India (1977), Report of the Productivity, Efficiency and Profitability Committee on Banking, (Luther Committee).
● Reserve Bank of India (1986), Report of the Committee to Review the Working of the Monetary System, (Chakravarty Committee).
● Reserve Bank of India (1991), Report of the Committee on the Financial System, (Narasimham Committee)
● Reserve Bank of India, Trend and Progress of Banks in India, various Issues (1997 to 2008).
● Reserve Bank of India, Statistical Tables Relating to Banks in India, CDs.
● Sarkar, P.C. & Das, Abhiman (1997), “Development of Composite Index of Banking Efficiency: The Indian Case”, Reserve Bank of India Occasional Papers, Vol.18, No.4, December, pp.679-709.

Annex - A