Budget 2026: Government Eyes Major PSU Bank Reforms with New Bill

Introduction: PSU Banks in Focus

Public Sector Undertaking (PSU) bank stocks, including major players like State Bank of India, Punjab National Bank, Bank of India, and Bank of Maharashtra, are under the market's microscope today. The attention stems from reports that the government may propose a new Banking Governance Bill during the Union Budget 2026 presentation. This potential legislation, as reported by NDTV Profit, aims to usher in significant structural reforms for state-owned lenders, impacting their governance, competitiveness, and operational frameworks.

The Proposed Banking Governance Bill

The primary objective of the proposed bill is to fortify India's public sector banking system. According to sources, the legislation intends to foster greater professionalism, enhance competitiveness against private peers, and accelerate technology adoption across PSU banks. The bill is expected to address several long-standing issues within the sector. Key areas of focus may include revamping board structures to improve oversight, strengthening accountability standards, and addressing the significant salary and compensation gap that exists between public and private sector banks. Furthermore, the bill could introduce measures enabling PSU banks to finance large-scale infrastructure projects more efficiently, shifting their focus beyond just safeguarding public deposits.

Government's Long-Term Vision for Banking

This legislative push is part of the government's broader ambition to make PSU banks globally competitive by 2047, aligning with the 'Viksit Bharat' mission. As part of this strategic overhaul, discussions around increasing the Foreign Direct Investment (FDI) limit in PSU banks from the current 20% are also anticipated. While a formal announcement in the budget would signal clear intent, reports indicate that the bill is still being finalized and could take another three to four months before it is ready for introduction in Parliament. The establishment of a high-level committee to review the sector's structure and regulatory framework was also mentioned by the Finance Minister, underscoring the comprehensive nature of the planned reforms.

Immediate Market Reaction to Budget Announcements

On February 1, the day of the budget, banking stocks showed a mixed reaction. Private sector banks like Kotak Mahindra Bank, HDFC Bank, and ICICI Bank saw gains. In contrast, PSU bank stocks faced selling pressure, with Bank of Baroda, PNB, and SBI declining by up to 3%. This divergence was attributed to the budget's dual focus. While the Finance Minister's announcement of a 9% increase in capital expenditure for FY27 was seen as a positive for long-term credit growth, the lack of immediate, concrete details on banking reforms created uncertainty around state-owned lenders. The plan to form a committee for review suggested that tangible changes might take more time, prompting investors to take profits after a strong rally.

A Look Back: PSU Banks' Stellar 2025 Performance

The recent consolidation in PSU bank stocks comes after a period of exceptional performance. In 2025, the Nifty PSU Bank index delivered remarkable returns, significantly outperforming its private sector counterparts. This rally was fueled by a combination of factors, including vastly improved asset quality, cleaner balance sheets with multi-year low NPA levels, strong credit growth, and supportive government policies focused on infrastructure.

Economic Context and Analyst Outlook

The push for banking reforms is set against a backdrop of a resilient Indian economy. The Economic Survey, presented on January 29, 2026, projected a real GDP growth of 6.8% to 7.2% for FY27, following an estimated 7.4% growth in FY26. Analysts believe that the proposed governance reforms could make PSU banks more investible for foreign institutional investors and mutual funds. However, they also caution that the sector is likely to experience volatility in the near term as the market digests the reform timeline and the stocks consolidate after their recent surge. The long-term outlook will depend on the successful implementation of these reforms, with experts advising a selective approach focused on banks with strong fundamentals and consistent earnings growth.

Conclusion

The potential introduction of a Banking Governance Bill in the Union Budget 2026 marks a pivotal moment for India's public sector banking landscape. It signals the government's commitment to modernizing these institutions and enhancing their role in the nation's economic growth. While the market has reacted with short-term caution due to the phased nature of the reforms, the underlying intent is to create a more robust and competitive banking sector. Investors will be closely watching the final details of the bill and the recommendations of the high-level committee, as these will shape the future trajectory of PSU banks.