PSU banks will need ₹2 lakh-crore recap in the next 2 years, says Moody’s

Moody’s Investors Service has estimated that public sector banks (PSBs) will need ₹1.9 lakh crore to ₹2.1 lakh crore ($25 billion-$28 billion) in external capital over the next two years under its base scenario to restore their loss absorbing buffers.

The global credit rating agency warned that non-performing loans (NPLs) and credit costs will increase in the next two years, hurting PSBs’ already weak profitability and depleting their capitalisation.

Govt recap

It observed that the most likely source of capital to plug the capital shortfalls will be government support, despite the completion of a large recapitalisation by the government several months ago.

Moody’s warned that a sharp slowdown in India’s economic growth, exacerbated by the coronavirus outbreak, will hurt PSBs’ asset quality, and result in sharp increases in credit costs, which will hurt profitability. Consequently, PSBs’ already weak capital buffers will be depleted.

Of the total amount of required capital, the agency estimated that PSBs will need about ₹1.0 lakh crore to build loan-loss provisions to about 70 per cent of NPLs, which will leave them with enough capacity to grow loans 8-10 per cent annually, faster than the 4 per cent in fiscal 2020.

With a capital infusion of this magnitude, banks would also be able to maintain capitalisation at levels comparable to global peers, with Common Equity Tier 1 (CET1) ratios of at least 10 per cent, it added.

Growth uncertainty

Moody’s observed that uncertainty surrounding India’s economic recovery as well as the ongoing clean-up of balance sheets are making it difficult for most PSBs to raise equity capital from markets.

“This means PSBs will continue to need support from the government to plug their capital shortfalls, and we expect the government to infuse fresh funds into them as it has done in the past.

“If PSBs, which dominate the banking system in India, fail to function properly in the absence of state capital support, the country will face a deepening credit crunch, hampering its economic recovery,” the agency said in a note

“Coronavirus fallout will leave banks with capital shortages again.”

Moody’s expects the Indian economy will contract sharply in fiscal year ending March 2021 (fiscal 2020) before returning to growth, though modestly, in fiscal 2021. As a result, formation of new NPLs will accelerate substantially, driven by the retail and micro, small and medium enterprises (MSME) segments.

Although one-time loan restructuring allowed by the Reserve Bank of India will prevent a sudden increase in NPLs, they will rise along with credit costs in the next two years, hurting PSBs’ already weak profitability and depleting their capitalisation, the agency said.

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