The extent of restructured assets in the banking sector, especially public sector banks (PSBs), is a cause for concern and an end to regulatory forbearance may be the right step ahead, according to the central bank.

“An early end to regulatory forbearance may be the right step. In addition, governance reforms along the lines suggested by the PJ Nayak Committee will build in inherent checks and balances on the risks and returns of the credit portfolio, thereby leading to more informed risk-taking,” the RBI said in its Financial Stability Report.

Many state-owned bank chiefs and indebted companies are lobbying to extend the window of regulatory forbearance that allows them to maintain low provisions against impaired or stressed assets.

In September 2014, PSBs continued to record high levels of stressed advances at 12.9 per cent of their total advances, while for private sector banks the stressed advances stood at 4.4 per cent.

The relatively higher possibility of slippages in restructured standard advances is required to be factored in by banks from the capital adequacy perspective.

According to the RBI, “While it may be somewhat legitimate to justify regulatory forbearance in times of major crises, forbearance for extended periods and as a cover to compensate for lenders/borrowers’ inadequacies engenders moral hazard. Even under no-stress condition, any restructured advance (generally categorised as sub investment grade by a rating agency) is more likely to turn into a non-performing asset (NPA).

Also, since banks traditionally have been providers of short-term working capital, their appreciation of particular risks in infrastructure projects seems to have been inadequate.

Hence, it is necessary for banks to strive for a more detailed understanding of the risk-return profile of the underlying projects before committing funds, whenever project appraisal is outsourced, the RBI said.

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