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Banking Reform in India∗ - page 34 / 57

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Conclusion: The evidence seems to be consistent with the view that banks are especially inclined towards the easy life in states where lending is hard. This suggests that the opportunity for lending to the government tends to hurt the firms that are relatively marginal from the point of view of the banks, such as firms in slow growing states and smaller and less established firms.

5

Some Final Issues: Rural Branches, NPAs and Bailouts

We conclude our study by examining two final arguments given in favor of public ownership of banks: that public banks are more willing to expand into rural areas, and that public banks are less likely to fail, and therefore cost the government (or public) less than private banks.

5.1

Branch Expansion in Rural Areas

As mentioned in the introduction, in 1977 the government passed a regulation which required both public and private banks to open four branches in unbanked locations for every branch they opened in banked locations. This regulation was repealed in 1990, though the Reserve Bank of India still maintained some authority of bank branch openings.

Burgess and Pande study the impact of this regulation over the period 1977-1990.38 They find that a 1 percent increase in the number of rural banked locations, per capita, resulted in a .42 percent decline in poverty, and a .34 percent increase in total output.

Cole uses the empirical strategy described in Section 5 to study the impact of bank nation- alization on rural bank growth.39 He shows that between 1980 and 2000 there was a substantial drop in the growth rate of rural branches, of the order of twenty percent. The nationalized banks in our sample experienced an even sharper decrease, with rural branch growth rates 6.6 percent and 8.6 percent slower their private counterparts in the 1980s and 1990s. These results are reported in column four of Table 5.

In summary, the regulation requiring the opening of rural banks may well have been benefi- cial, but if anything, nationalization made banks slightly less responsive to the regulation

38 Burgess and Pande (2003). 39 Cole (2004).

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