Govt, RBI must find a lasting solution to tackle NPAs

The NPA (non-performing asset) menace which was kept under some check for a few years has again started raising its ugly head disturbing the peace of mind of the Government and the Reserve Bank.

More NPAs mean, more resources the banks have to find to maintain capital adequacy. As long as lending remains an inevitable function of banking and banks have to deal with human beings as borrowers, this problem will continue to haunt the banks.

Further, the changes in economic scenario which is influenced by several micro and macro economic factors, on both domestic and international fronts, such as declining GDP growth, high inflation, financial instability, exchange and interest rate volatility and monsoon conditions also affect the working of banks adversely and result in increased level of NPAs.

Present approach

The present approach by the regulator to expect the banks to make good the loss on account of NPAs by charging to banks' profit and loss account at the cost of all stakeholders of banks that is depositors, borrowers, shareholders, employees and ustomers, is neither ethical nor prudential.

Further, the loss to the economy on account of NPAs is unfortunately made to bear by the tax payers as the Government loses its revenues on account of reduction of GDP because of non-performance of assets and also is made to contribute to capital through budgetary provisions to enable the banks maintain the capital adequacy standards according to Basel norms. The position of public sector banks NPAs vis-a-vis advances, deposits and investments for the period 1993 to 2011 is show in the accompanying chart.

It can be observed that the gross NPAs as percentage of gross advances have drastically come down from 23.2 per cent in March 1993, (when the concept of NPA was first introduced in terms of financial sector reforms) to 2.2 per cent in March 2011. Working of banks got further streamlined based on banking sector reforms introduced in 1998. The results are very encouraging. In the decade 2000 to 2010s, banks could bring down considerably their NPAs.

Many factors have come to the rescue of banks in keeping the NPAs down. The banks were identifying the NPAs through manual process all these years and it was humanly impossible to assess the correct position of such assets . The banks could manage to keep many NPAs under the carpet and the hidden NPAs were difficult to be identified as banks had umpteen ways to camouflage them. The boom in real estate prices came handy for banks to bring pressure on borrowers who also found it advantageous to sell off their assets and come out of banks' clutches.

Further, Debt Recovery tribunals, Lok Adalats, implementation of the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 for recovery of dues, improved performance of the economy and banks' own performance in terms of better profitability on account of enhanced efficiency, productivity, competition, better return out of investments and diversification of operations greatly contributed to bringing down NPAs.

Huge write-offs of NPAs at the cost of shareholders who include the Government, effective regulation and supervision of the Reserve Bank also played an important and effective role in keeping down the level of NPAs.

The provisioning requirements in particular compelled banks to be vigilant in minimising the bad loans . Added to this, the permission granted by the Reserve Bank in August 2008 to restructure some of the accounts (though strictly need to be classified as NPAs) and treat them as standard assets if found viable, limited the growth of gross NPAs. With all aforesaid adjustments, NPAs stood at Rs 71,047 crore as at end March 2011, but are still staggering and causing concern.

The steep increase in advances since 2005 onwards (CD ratio increased from 61.8 in 2005 to 75.6 in 2011) is something abnormal and how much of this would turn out to be NPAs is worth watching. With the recent switch over to computerised system to identify the NPAs, the position has been moving from bad to worse.

With the high interest rate regime, persisting inflationary and near recessionary conditions in the domestic economy, and discouraging economic scenario in the US and Europe, the chances of generation of more NPAs in the coming months cannot be ruled out.

The fact that NPAs affect the economy in general and all stakeholders of banks in particular and finally lead to bail out of banks with budget allocations has been the trend and has to be recognised and this approach to manage NPAs needs to be done away with.

New fund

Time has come to give a serious thought to this NPA menace and find a lasting solution to put up with them. Since only banks and borrowers do figure in the generation of NPAs, the ideal way to come out of this problem is to have a built-in mechanism to liquidate NPAs by means of creating a Precautionary Margin Reserve Fund (PMR) involving all borrowers and banks. This has to be done on a systematic and scientific basis.

Over a period, this fund will be more than the formation of NPAs, and this approach can strengthen the vitally missing credit discipline among the borrowers. Banks will have to tighten the monitoring of accounts on a continuous basis to rate the borrowers, discipline them and levy the contribution towards the PMR Fund based on borrowers' rating.

Bankers are generally inclined to satisfy the borrowers and do not want to incur any displeasure by being strict and vigilant with them for fear of losing the account when the going is good.

Borrowers will oppose creation of this fund as it adds initially to their cost of funds and expects them to adhere to strict credit discipline though they can derive the benefit in the long term. Besides, the rating will have reputation risk with attendant consequences.

It is for the Government and the Reserve Bank to seriously view the NPA menace and introduce a solution perhaps acceptable to all stakeholders of banks other than borrowers.

This suggestion developed through a statistical model has been found workable resulting in disciplining the borrowers and making the balance sheet of the banks strong. The Government is the major beneficiary in case the solution is introduced.

(The author is a consultant and views expressed are personal)

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