Despite the provisions, control and regulations of the Reserve Bank of India (RBI) , banks in India except the State Bank of India (SBI), remain owned and operated by private persons. By the 1960s, the banking industry had become an important tool to facilitate the development of the Indian economy. At the same time, it had emerged as a large employer, and a debate had ensued about the nationalization of the banking industry. The then Prime Minister of India, Indira Gandhi, expressed the intention of the Government of India in the annual conference of the All India Congress Meeting in a paper entitled Stray thoughts on Bank Nationalization.
The decision came at the end of a troubled decade. India was buffeted by economic as well as political shocks. There were two wars—with China in 1962 and Pakistan in 1965—that put immense pressure on public finances. Two successive years of drought had not only led to food shortages, but also compromised national security because of the dependence on American food shipments to keep hunger at bay. Fiscal retrenchment through a three-year plan holiday had hurt aggregate demand as public investment was cut.
Thereafter, the Government of India issued the Banking Companies (Acquisition and Transfer of Undertakings) Ordinance, 1969 and nationalized the 14 largest commercial banks with effect from the midnight of 19 July 1969. These 14 banks included: Allahabad Bank (now Indian Bank), Bank of Baroda, Bank of India, Bank of Maharashtra, Central Bank of India, Canara Bank, Dena Bank (now Bank of Baroda), Indian Bank, Indian Overseas Bank, Punjab National Bank, Syndicate Bank (now Canara Bank), UCO Bank, Union Bank of India United Bank of India (now Punjab National Bank). These banks contained 85 percent of bank deposits in the country. Within two weeks of the issue of the ordinance, the Parliament passed the Banking Companies (Acquisition and Transfer of Undertaking) Bill, and it received presidential approval on 9 August 1969.
As a result of this nationalization, it led to an impressive growth of financial intermediation. The share of bank deposits to GDP rose from 13% (1969) to 38% (1991), the gross saving rate rose from 12.8% (1969) to 21.7% (1991). Gross Domestic Savings almost doubled as a percentage of national income in the 1970s. The reach of the banking system also increased and banks were no longer confined to the metropolitans and reached remote areas of the country, thus promoting rapid growth in agriculture, small scale industries and development of these remote and backward areas. The nationalization furthered India’s growth process, particularly during the Green revolution.
There were also some harmful effects of the nationalization. The primary purpose for which the nationalization was done i.e. extending bank facilities to rural areas was also unfulfilled and many areas of the country including Uttar Pradesh, Chhattisgarh and the North Eastern part remain unbanked. It failed to eradicate poverty and scaling down of wealth inequalities. Financial inclusion was only increased post the implementation of the Jan Dhan Yojana. Moreover, multiple public sector banks also suffered due to political interference. Banking was no longer done on professional and ethical grounds. It resulted in lower efficiency and poor profitability. The performance of these banks on the basis of branch expansion and number of deposits never surpassed the numbers shown by private banks.
Bank nationalization was the beginning of a broader political economy strategy in the 1970s- a decade where economic growth barely outpaced population growth. This nationalization did succeed in certain areas such as financial deepening cause of the rapid spread of branches but eventually, it did more harm than good. As of 2021, there are a total of 12 nationalized banks in India.