Can India do it without amplifying risks?

The renewed push aims to create fewer, larger institutions with the balance-sheet strength of global-scale banks, capable of supporting India’s expanding investment and credit requirements.

However, a deeper concentration of banking activity within a handful of mega lenders raises concerns over diluted regional priorities and heightened systemic risks should stress build up in one or two dominant institutions. As discussions gather pace, the challenge will be to strike a balance between scale and stability, while also achieving reach.

Global gap

India’s banking system, long considered deep and expansive domestically, remains small by global standards. Only two Indian lenders, State Bank of India (SBI) and HDFC Bank, feature among the world’s 100 largest banks, ranking 43rd and 73rd, respectively. China, in contrast, dominates the global leaderboard with 21 banks, including seven in the top 20. The scale gap in terms of assets managed is even more striking. SBI’s balance sheet stands at roughly $0.85 trillion, while the Industrial and Commercial Bank of China (ICBC) manages assets worth $6.7 trillion, nearly eight times larger. Even the two largest US lenders, JPMorgan Chase and Bank of America, operate with asset bases between $3 trillion and $4 trillion, placing them far ahead of Indian peers.

India has historically had many mid-sized banks rather than a few dominant ones, a legacy of gradual nationalization, fragmented branch-led expansion, and conservative growth models. The 12 PSBs collectively manage assets worth around $1.95 trillion, much smaller than a single Chinese banking giant. The scale gap carries consequences for the country’s financial capacity, particularly in funding large infrastructure and industrial projects.

Fertile ground

The government is seeking to scale up banks at a time when PSBs are in their strongest financial shape in years. After a decade of repair, recapitalization and consolidation, state-owned lenders have staged a significant turnaround. In 2024-25, PSBs recorded a net profit of ₹1.78 trillion, supported by healthier loan books, cleaner balance sheets, and stronger capital buffers. Furthermore, the gross non-performing asset (NPA) ratio declined to a ten-year low of 2.6%, largely due to recoveries and resolutions under the Insolvency and Bankruptcy Code (IBC). Moreover, for the first time in over a decade, PSBs reported faster loan growth than private banks. By the end of 2024-25, PSBs posted loan growth of 13.1% year-on-year, outpacing private banks at 9%.

Stronger balance sheets and lower NPA stress give the government greater room to push consolidation without risking instability or capital erosion during integration. Mergers are politically and operationally easier when banks are profitable and capable of absorbing transition costs. A healthier sector will also help avoid the risk of one weak bank pulling down a stronger partner, a concern that stalled earlier moves.

Mixed gains

A Reserve Bank of India (RBI) study of 17 bank mergers conducted between 1997 and 2017 shows that the most significant post-merger gains occurred in balance-sheet strength. Ratios such as loans-to-assets and loans-to-deposits, both measures of how effectively banks convert resources into credit, improved in roughly 70% of acquirers, indicating stronger credit deployment. Measures of capital adequacy improved in more than 80% of cases, suggesting a healthier buffer to absorb losses.

Operational efficiency outcomes were more uneven. Metrics such as operating expenses to assets and operating expenses to net operating income improved in the majority of cases, but the broader cost-to-income ratio strengthened in only one-third of mergers, implying that integration synergies take longer to materialize. Profitability, measured through return on assets and return on equity, improved for only about half the banks, indicating that scale does not automatically raise earnings. However, net interest margin strengthened more consistently, likely reflecting better pricing power. Asset-quality indicators also improved moderately, supported by higher provision coverage in the post-merger period.

Risk amplifier

Banking consolidation risks creating institutions that are “too big to fail”. The RBI’s systemic contagion simulations show that the hypothetical failure of a single large bank can transmit losses deep into the financial network, eroding capital buffers across multiple lenders and triggering liquidity stress. Accordng to the latest Financial Stability Report, the collapse of one major bank could wipe out 3.4% of the entire banking system’s tier-1 capital, which is the core equity buffer that absorbs losses and protects depositors. Even the second-largest trigger bank in the model would erode 2.2% of the system capital, while pushing another bank into liquidity stress.

A single failure is therefore capable of sending shockwaves through the system because big banks are tightly interlinked through lending, borrowing and settlement channels. India already recognizes three institutions, SBI, HDFC Bank and ICICI Bank as Domestic Systemically Important Banks (D-SIBs), meaning distress in even one of these institutions could threaten overall stability. These banks are subject to higher capital requirements to safeguard the system. With further mergers, more PSBs could enter this category, increasing concentration and amplifying vulnerability within the banking network if a large institution falters.

Concentration conundrum

As India contemplates the next round of bank mergers, the question is whether fewer, bigger banks are the only route to scale or whether a broader, more diversified system could achieve the same strength with fewer systemic risks. Even the world’s largest banking systems, those of the US and China, have achieved scale without high concentration. The US has an ecosystem of more than 4,500 banks, preventing giants such as JPMorgan Chase and Bank of America from dominating balance sheets. China, too, has built a layered structure of city commercial banks, rural credit cooperatives, and policy banks, allowing smaller institutions to thrive alongside its biggest lenders.

India currently has 135 scheduled commercial banks: 12 PSBs, 21 private banks, 44 foreign banks, 28 regional rural banks, 11 small finance banks, and four payments banks. The top three lenders already command around 41% of total assets, a share that could climb further with consolidation, potentially concentrating power and increasing systemic exposure. The experience of the US and China shows that scale and depth need not come solely through mergers; competitive diversity can coexist with national champions.

Puneet Kumar Arora is an assistant professor of economics at Delhi Technological University. Jaydeep Mukherjee is a professor of economics at Shiv Nadar University, Chennai.