Structural reforms need to be taken up on a war footing

Just when you think we are reaching the end of the story, another chapter unfolds and takes the banking sector by storm.

Banks faced a multitude of challenges in the BJP-led government’s first term. Aside from bad loans shooting up and credit growth plummeting, rising bank frauds, governance issues and regulatory flip-flops have kept banks in a perennially sorry state of affairs.

While it is true that the stockpile of their stressed assets is a result of excessive lending between 2009 and 2013 (pre-Modi era), particularly to sectors such as infrastructure, power, textiles and metals, the lack of promised reforms by the Modi government has accentuated the festering structural issues within the banking sector.

Rough patch

The significant slowdown in the growth of GDP over the past five years has weighed on banks’ performance. But what has heightened the issue is the sharp rise in bad loans and provisioning over the past five years that have eroded banks’ capital and weakened their balance sheets.

Cleaning the books

The massive clean-up of banks’ books that began with the RBI’s asset quality review in December 2015, followed through in the ensuring quarters, as the RBI’s annual based risk assessment revealed hidden skeletons in the lenders’ closets. The biggest blow came from the RBI’s February 2018 circular, which sought to flush out the rot in banks’ books under the guise of various restructuring schemes.

The upshot? For both private and public sector banks, bad loans galloped and grew 30-40 per cent annually between FY14 and FY19. While private players managed to grow loans by a healthy 16 per cent CAGR during this period, for PSBs, growth in loans was a meagre 6 per cent. Earnings for PSBs (listed) slipped deep into the red the past two fiscals — ₹50,000-75,000 crore of annual losses.

What next?

The RBI’s recent Financial Stability Report interestingly paints a sanguine picture. It states that with most of the NPAs already recognised, the GNPA ratio declined to 9.3 per cent this March from 11 per cent the previous year. Also, the capital-to-risk weighted assets ratio has inched up for PSBs in the March quarter after recapitalisation.

Cause for worry

But these are simplistic arguments that are missing the wood for the trees. True, accretion to NPAs is appearing to taper. But at nearly ₹10-lakh crore, the existing stock of GNPAs is a big cause for worry, as the ageing of bad loans will continue to keep provisioning high.

Add to this, the slow pace of resolution of stressed assets will continue to hurt banks. The Insolvency and Bankruptcy Code (IBC) implemented two years ago has failed to deliver quick resolution, again hurting banks.

After the bigwig cases such as Electrosteel Steels and Bhushan Steel, the amount realised against claims has also been low. In the recent March quarter, the recovery rate was just 24 per cent.

Governance overhaul

The RBI’s revised framework on the resolution of stressed assets (after the February 2018 circular was struck down by the Supreme Court) has now left the discretion with banks to deal with the issue — outside or within IBC. But this will require some hard-hitting decisions by bankers, and necessitate major ownership and governance changes in PSBs.

While the Budget does make a cursory mention of strengthening governance in PSBs, it fails to lay out a concrete roadmap for materially improving governance. Creating truly autonomous boards and diluting the Centre’s stake to below 51 per cent are critical. The Budget mentions kick-starting consolidation by merging PSBs. But such shot-gun mergers driven by weak finances of PSBs will achieve little unless reforms are hastened.

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