Are banks equipped for social engineering?

Expecting banks to ‘serve’ society while making less money (because of reduced growth aspirations that the regulators would want them) raises a moral question in a capitalist society.

At a recent global research conference, Research Bank of India (RBI) Governor Shaktikanta Das cautioned lenders against chasing 'mindless' business growth at the cost of exposing the broader financial system to ‘unacceptable risks’. He pointed out that hidden vulnerabilities in business models could potentially be overlooked in the financing industry’s unifocal pursuit of profitability.

One of the triggers could be the credit-deposit ratio, which measures bank credit relative to deposits garnered, rose to around 0.78 at the end of May from 0.75 a year back, with some lenders even liquidating their bond holdings to meet credit demand. The crucial question the RBI might address in its subsequent economic-research updates is whether such credit demand has been driven by organic business growth or economy-related stress.

“I wish to highlight the importance of ethics in governance, which involves compliance with laws and regulations, both in letter and spirit; pursuit of sustainable business practices; and avoidance of mindless pursuit of bottom lines,” Das said.

Here is the capitalist-conundrum. After all, most banks are listed entities, and by market-design, are for-profit and need to deliver financial success to their shareholders, every time. So where does the social aspect of profits come in? What is the acceptable risk for banks to participate in? Who determines it? Where can boards offer such expertise? After all, aren’t banks in the business of finance, and should have the ability to price the risks? From a governance perspective, how does one assess the moral capability of board members in balancing such a worldview?

Acceptable risk for banks involves a balance between potential returns and the likelihood of financial loss, ensuring the stability of the broader financial system. Determining this level of risk is a complex task, typically set by regulatory bodies, which establish guidelines and frameworks for risk management. However, bank boards are expected to play a crucial role in interpreting these guidelines and integrating them into the bank’s strategic decisions.

Many of us have grown up in a socialist India that has turned into a frenzied capitalist pursuit of top and bottom lines. This pursuit drives leadership behaviour, valuations, and financial outcomes, such as ESOPs for banking sector leaders (at least in the private sector). Board members often join for the size, scale, influence, and success of a bank brand, not for social or virtuous reasons. This presents a design challenge.

In FY24, the Indian banking sector saw its highest-ever sectoral profit — up 38% year-on-year to Rs 3.45 lakh-crore. Even the prime shareholder of many banks, the Government of India, needs its banks to churn profits and pay dividends to it. While banks can be political or social engineering vehicles of governments, the private sector is purely for-profit. Expecting banks to ‘serve’ society while making less money (as a consequence of reduced growth aspirations that the regulators would want them) raises a moral question in a capitalist society.

Banks wouldn’t exist without the society they serve. How do we then redesign the banking system, and the capitalist culture within it, to recognise that they make money by providing essential services that would be extraordinarily expensive to procure without their (banks) existence?

However, do our bankers understand the fundamental socio-economic value of banks, beyond financial valuations? It seems increasingly doubtful. Banks are integral to economic stability and social progress; they facilitate everything from business sustenance and scaling to education to national infrastructure development. However, this vital role is frequently eclipsed by a narrow focus on quarterly earnings and stock performance. The true measure of a bank’s success should encompass its contribution to societal well-being and economic resilience, not just its balance sheet.

Until bankers fully grasp and embrace this holistic view, the sector risks losing its foundational purpose and, with it, public trust. To address this, the RBI must introduce a performance metric that bank boards can use to track social impact alongside financial returns. Without such a measure, it is unreasonable to expect banking leaders to prioritise anything beyond financial results.

Banks, as institutions, are not merely financial intermediaries facilitating transactions and providing loans; they are formidable engines of social engineering. Their influence extends beyond the realms of economics, penetrating deeply into the social fabric and reshaping societies in profound ways. Through their lending practices, banks actively participate in the construction of socio-economic hierarchies, perpetuating existing inequalities or, at times, challenging them. They do not merely reflect the economic realities; they actively create and reinforce them. Even the new digital frontier of banking is not free from the spectre of social engineering, but thanks to shallow domestic debt markets, it is rather a sophisticated evolution of it, cloaked in the guise of technological progress.

Banks’ mould citizens’  financial behaviour, embedding certain financial norms and values within the collective psyche. This subtle form of social engineering guides individuals towards particular lifestyles, often centred on consumption and debt, which serve the banks' interests by generating profits through fees and interest payments.

Profit motives do not absolve banks of their societal impact; rather, they highlight the deliberate nature of their influence. The pursuit of profit often aligns with the reinforcement of existing power structures, as stability and predictability in social hierarchies serve financial interests. But then who builds a bank’s morals?

This is where regulatory-fixation on positive social reinforcement will need a fresher design think of the RBI, in reimagining metrics of what constitutes good banking.

(Srinath Sridharan is a policy researcher and corporate adviser. X: @ssmumbai.)

Disclaimer: The views expressed above are the author's own. They do not necessarily reflect the views of DH.