Last checked at 
* Central bank move is part of response to financial crisis
* Says local units of banks would gain from being subsids
* Banks would face demands such as "priority sector" lending
* StanChart, HSBC among those seen mulling change
By Subhadip Sircar and Sumeet Chatterjee
MUMBAI, Nov 7 (Reuters) - India's move to encourage foreignbanks such as Citigroup and HSBC Holdings toreposition as wholly-owned subsidiaries may find just a handfulof takers, given the regulatory trade-off.
Under central bank rules announced late on Wednesday,foreign banks which convert their local operations from a branchstructure to being subsidiaries will be treated on nearly equalterms with local lenders.
This could open the way to them opening more outlets acrossIndia and could also allow them to buy local private sectorbanks - potentially a major lure as banks seek to tap into thefast-growing Indian economy.
The rules are aimed at giving India greater regulatory powerover foreign banks in the wake of the global financial crisis.
Yet foreign banks would also face a bigger regulatory burdenin the subsidiary setup, including having to earmark 40 percentof their lending to the "priority sector," which includesunderserved parts of the economy and agriculture.
That's a requirement that domestic banks must already meetand is being phased in for foreign banks with 20 or morebranches. As a subsidiary, a foreign bank would also needapproval to tap its parent's balance sheet, something it doesn'tneed under existing rules.
The new rules come as global financial firms have beenparing back their investment in non-core markets.
"The environment has changed, both in India and overseas.Only a handful of banks who have retail banking ambitions willconsider it," said a senior banker with a large U.S. bank, declining to be named given the sensitivity of the matter.
The 43 foreign banks in India account for less than half apercent of the country's 92,114 banking outlets. Under exitingrules, foreign banks can open up to just 12 branches betweenthem per year in India.
Citigroup, HSBC and Standard Chartered are the biggest and operate as branches, notsubsidiaries. They along with Singapore-based DBS Group HoldingsLtd, which has 12 branches, are widely seen as thelikeliest to consider switching to subsidiaries.
"If you look at Citi, StanC or HSBC, they have an embeddedIndia strategy, so it makes a lot of sense for them to convertbecause they are getting near-national treatment," said AbizerDiwaji, national leader for financial services at EY India.
"The flip side is that they will have to commit (more)capital in India."
ACHIEVABLE TARGET
DBS India CEO Sanjiv Bhasin said the bank was evaluating theRBI guidelines. "If you read it, it looks intimidating, but thefact is you have been given five years," Bhasin said, referringto the priority sector lending target. "It's difficult but it'scertainly achievable".
Citigroup and HSBC declined comment. StanChart welcomed theguidelines but said it was too early to comment in detail.
In recent years, Barclays has exited retail bankingin India and Royal Bank of Scotland has sold its Indiancredit cards, mortgage and commercial banking portfolios, partof a broader trend by global banks looking to shore up theircapital base to meet regulatory requirements.
"Most of the foreign banks in India have moved away fromretail banking and are now focusing on corporate banking," saidthe India operations head of a European bank who declined to benamed.
Under the new rules for wholly-owned subsidiaries, foreignbanks can buy a local private-sector lender after a central bankreview of overall foreign bank penetration.
To prevent foreign domination of the banking sector, thecentral bank will restrict further entry of new wholly ownedsubsidiaries of foreign banks if the assets of institutionsowned abroad exceed 20 percent of the country's total.
Currently, foreign banks' capital, reserves and surplusaccount for 15 percent of the overall banking sector, eventhough foreign banks have less than 5 percent of industrydeposits, leaving little room for big acquisitions.
India's banking system is dominated by state banks, whichaccounted for more than two-thirds of industry assets at the endof March 2012, the latest RBI data showed.
Foreign banks operating in India before August 2010 have theoption of continuing as branches. "However, they will beincentivised to convert into WOS (wholly owned subsidiaries)because of the attractiveness of the near-national treatmentafforded to WOS," the central bank said.
