The Hindu Business Line : Need to deconstruct bank failures

Only an unbiased study of failed banks would lead to a meaningful strengthening of the sector in the real sense and not through mere display of figures.

The varied reactions to the recent developments in the banking sector — the merger of United Western Bank with IDBI Bank Ltd, and the takeover of Lord Krishna Bank Ltd by Centurion Bank of Punjab Ltd — make interesting reading. One significant reaction was that of the All India Bank Employees Association General Secretary, Mr. C. H. Venkatachalam. While stating that it would be advisable to merge LKB with a nationalised bank, he had suggested a probe into the workings of LKB and UWB.

Warning signals

If taken up, this suggestion could develop into an interesting case-study and offer definitive pointers to recurrence of similar situations. Such happenings are invariably preceded by certain traits or features that can easily be perceived if only one would not turn a Nelson's eye to them, and which can serve as early warning signals.

The fixation with figures (targets?), which are to be achieved at any cost, through any method and at all levels (branch, regional or divisional office and consequently the bank as a whole), whatever the circumstances.

Arising out of the above, the desire of bank chiefs to come up with impressive figures within the shortest possible time particularly in view of their limited tenure of appointment.

Flowing from this, the tendency to go for bulks particularly towards the end of specific periods (quarter, half year or annual), normally referred to as "ballooning".

The ballooning happens both on the credit and deposit fronts, the sporadic growth in credit on the one side being the cause of a similar feature on the deposits front, due sometimes to the need to keep an eye on the CD ratio and sometimes to provide for funds.

Such bulk deposits are generally taken for very short tenures and, often, at fancy rates. These deposits are either renewed at equally, if not more, fancy rates in order to sustain the deposit levels or are allowed to mature if the funds position becomes comfortable. The latter option would see a sharp drop in the deposit levels immediately after the close of the specified period.

Ballooning effect

A similar ballooning can also be noticed in credit, invariably on bulk advances given for varying periods and rates of interest. This could ultimately prove disastrous if the bank concerned is small which should ideally, and on considerations of the health and size, be growing focussed more on its retail portfolio rather than on larger-than-manageable corporate portfolio.

This often becomes critical for a small bank as even the failure of two-three large accounts can pose serious problems. (It would indeed be ironical if, at a time when quite a few large banks have started focusing on the retail and SME portfolios, some small banks should be adopting the above strategy aimed purely at figures, since such bulk advances would be giving returns far below those generated by the retail and SME portfolios.)

The above actions would on their own throw up warning signals if the Asset Liability Management (ALM) exercise is gone through with the required level of diligence in respect of mismatches whether on account of interest rates or of maturities. While the former would reflect in the Net Interest Margin (NIM), the latter — a more serious issue as it could have implications for the basic liquidity of the bank itself and its ability to meet commitments on time — would get reflected in cash flow deficits for those specified periods.

Maturity of deposits of very short terms (0 to 90 days), and consequent mismatches, are very often explained by claims that these deposits would invariably be renewed. While such statements may be valid to some extent under certain circumstances when the going is good, these explanations could ultimately prove suicidal when the situation gets tough and challenging.

The NPA issue

An important factor that has not been commented upon relates to non-performing assets, their disclosure, the provisioning requirements, and the various ground realities. This matter was not been commented upon as it could on its own be the subject matter of a full-fledged article of interest and relevance.

An unbiased study of these issues would be both educative and revealing, pointing out to the levels of discipline that would have to be maintained considering the future and accountability aspects. Only this would lead to a meaningful strengthening of the banking sector in the real sense and not through mere display of figures at the end of the specified periods.

(The author, a former banker, can be contacted at beearkay@yahoo.com)

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