Cleaning the Augean stables

Ajit Ranade | Updated on August 16, 2020

Title: Overdraft: Saving the Indian Saver Author: Urjit Patel Publisher: Harper India Price: ₹599

Urjit Patel’s book is a tongue-in-cheek comment on the futility of bad-loan recovery in Indian banking

In his latest stint, Urjit Patel spent five years at the Reserve Bank of India, three as a Deputy to Raghuram Rajan, and then two at the helm of the hallowed institution. He left abruptly in December 2018, a year before his term was to end, citing personal reasons. There was speculation that he was “sacked”, or that his resignation was due to irreconcilable differences with his bosses in Delhi. His resignation was preceded by some very stormy meetings of the RBI Board, which ran well into midnight amid strong disagreements on key issues.

Those issues impinged on the autonomy and independence of the central bank, and the debate on them had been brewing for some time. Patel’s departure raised eyebrows since he was hand-picked to succeed Rajan by the Prime Minister himself, and presumably enjoyed the latter’s confidence. Much of this is conjecture since until the publication of his recent book, Patel has been very quiet and consciously kept away from the public eye. Even while in office, he was known for his reticence and allergy to media appearances; a stark contrast to his more expansive predecessor.

Hence, his latest book, Overdraft: Saving the Indian Saver, was eagerly awaited as perhaps a tell all, a scathing insider’s view of central banking in India. That expectation is belied; this ain’t no potboiler. What you get is a scholarly and coherent account of all that ails banking, which will be of immense value to students of monetary economics. Much of the material in the book is already in the public domain, even as part of the few speeches that Patel gave as Governor. Even then,, you can discern the anger, frustration and disappointment about policy failures, inaction, mismanagement or outright fraud. The villains are not named, but that is something astute readers can infer. The book is dedicated is to the “Indian Saver”, who quietly bears the enormous ultimate cost.

Technical read

Patel’s writing occasionally goes lyrical, seen in the very first paragraph of the Preface, or the last one of the book, which invokes a Chekov play! It’s a tongue-in-cheek cryptic comment on the futility of bad-loan recoveries, which often end in loan waivers. But despite the many literary flourishes, the book is not a breeze to read; it has a lot of technical stuff, data and tables and even an Appendix with an advanced mathematical model with theorems and proofs. There are also passages with awkward grammar or unwieldy sentences, and one doesn’t know whether this was because of the haste to prepare the manuscript, or the need of the author to diplomatically side-step some issues.

While Patel discusses many key recent issues that he tackled as Governor, he is completely silent on the big demonetisation event, which was executed under his watch. That was a period of tumult, with the RBI having to clarify by issuing as many as 66 notifications in 47 days. Also missing is the debate about “raiding” the RBI balance sheet for fiscal needs, or direct assistance to NBFCs in the wake of the IL&FS debacle. Maybe that account will have to wait for another book, since this is not a definitive or comprehensive memoir of this central banker.

The book is organised into 16 short chapters and two appendices. The chapters themselves are grouped as a backdrop to cleansing the Augean stables in bits and pieces. The bulk of the discussion is on the 8-R model of managing non-performing assets (NPAs) or bad loans. Basically, it comprises recognising and recording the scale of the problem; recovering distressed assets and resolution through the bankruptcy process; and, finally, recapitalising banks to fund future growth.

The NPA problem

Since Indian banking is dominated by government-owned banks (called GBs by Patel), this public ownership means that market-disciplining is weak. Hence, as Patel says, the “regulator’s remit is circumscribed”, and the NPA problem of GBs is prone to periodic crises, aggravated by lack of effective autonomy in credit decisions. Even then, starting in 2015, the RBI insisted on an asset quality review of bank balance sheets, so as to reveal the true picture of bad loans. That caused the reported NPA ratio to triple, thus pointing to the true and daunting scale of the clean-up challenge. This ratio has gotten even worse thanks to Covid-induced stress, as pointed out by the recent Financial Stability Report of the RBI.

This puts an enormous fiscal requirement for equity infusion. A large fiscal overhang is a constant feature of the Indian economy, and constrains the RBI’s monetary policy-making and regulatory role. Added to this is the government’s periodic propensity to provide loan waivers or disburse credit via de facto loan melas. Patel is harsh on the “no questions asked” Mudra loans, a 59-minute loan approval programme which has led to substantial unpaid debts and rising NPAs.

Patel says India’s finance ministers declare “credit budgets” on behalf of banks in their budget speeches, and then State ministers announce write-offs. He calls this the case of Overton’s window in India’s political economy, due to which previously abnormal or unthinkable situations become normal with time. This is clearly seen in these Covid-hit times, when regulatory forbearance and relaxing credit discipline reached newer benchmarks. Covid is the alibi, but the malaise is deeper, structural and perennial.

Patel spends considerable space on the steady dilution of the Insolvency and Bankruptcy Code, a landmark law which promised a clean and transparent resolution mechanism to tackle the NPA problem. The RBI sought to bring a rule-based approach to the resolution of bad loans. Its February 2018 circular mandated that loans would compulsorily be referred to the IBC process if no loan restructuring was done in the stipulated time. This rule was challenged and then struck down by the Supreme Court. Patel’s dismay is evident, and he writes it is “..difficult to fully understand ..(how) a transparent rule is untenable, but discretion on a case-by-case approach is kosher”. He calls it a case of “the empire strikes back”, with reform getting derailed by vested interests. We are back to a case-by-case approach with all the attendant problems of moral hazard and delay. Overton’s window again.

Patel’s short book may side-step sensitive or controversial personalities or events. But it does give a scholarly and dispassionate analysis of some key issues and problems plaguing India’s banking sector, and an insight into the structural weaknesses. A must-read for policy-makers and students of economics.

Through The Billion Press. The reviewer is an economist and

Senior Fellow, Takshashila Institution

Published on August 16, 2020

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