Financial sector stability is of utmost importance

During the last one year, three banks, PMC Bank, YES Bank and Lakshmi Vilas Bank have collapsed. Large NBFCs, IL&FS and Dewan Housing Ltd declared bankruptcy. Failing PSBs were merged to beef up public sector banking. Karvy Stocking Broking Firm default shows regulatory ambivalence. People are concerned with the financial sector stability.

Rising NPAs continues to cause a concern, despite the push for Atmanirhar Bharat Abhiyan. Having waited for the ₹3-trillion targeting increase in the working capital accounts of MSMEs for six months, the Centre realised that the pick up has been only 55 per cent despite the increase in the threshold limit to ₹250 crore turnover in the units on the target date.

The number of stressed sectors increased to another 26, with credit outstanding of above ₹0.5 billion but below ₹5 billion. This new scheme of 20 per cent additional working capital is also without any collateral. But banks weary of the guarantee are seeking fresh documentation combining the existing loan with the new loan, thus in effect taking the existing collateral cover.

The changed scenario

In this backdrop, economist Kaushik Basu in a recent article reminded us of the East Asian crisis arising from behest lending. We may have escaped the Asian crisis as we did not allow full capital account convertibility then, but now things are different. We have now embraced capital account convertibility, following the recommendations of the Tarapore Committee-2 (2011). Foreign direct investments are also rising.

In the last five years, the PSU Bank Index has posted negative 17 per cent returns as against a 67 per cent gain by the broader index, the Nifty 50. The Sensex has gained 72.7 per cent during the same period. In the last 10 years, shares of PSU banks are down by up to 90 per cent. Stock market experts, therefore, predict a bear-market rally and not a bull-run in the wake of uncertainties of Covid-19. Leading private sector banks’ stocks are on bull ride.

The fine-print

Interestingly, a look at the balance sheets for the years 2018-20, reveals that post-merger, SBI’s fixed assets showed a negative 1.4 per cent change whereas all the Associate Banks had their own fixed assets at several places as per their respective balance sheets pre-merger. Loans and advances have shown a decline of 7 per cent and 4 per cent for SBI and HDFC Bank respectively during the FY 2020 over the previous year and so is the interest income during the years.

During the FY 2019-20, NPAs — both gross and net — had shown a remarkable decline whereas the amount written off showed a decline from ₹589 billion to ₹523 billion for SBI. HDFC Bank wrote off far less than SBI showing improved asset class in the aggregate for the former while between the years, HDFC Bank’s write-offs in in 2020 were 80 per cent higher than in 2019.

HDFC Bank’s net profit is consistently higher during all the years than SBI’s although the latter moved from net loss of ₹41 billion in 2018 to ₹182 billion in 2020. These two banks are chosen because they represent nearly 30 per cent of market share of business among the PSBs and private sector banks, respectively.

Bond market: Losing sheen

Bond markets show more uncertain yields in future as the trust in bonds is eroding by the day, thanks to the de-recognition of AT-1 bonds of YES Bank in which case the investors at least knew even at the time of entry that such risk existed. Regulatory action in regard to Tier-2 bonds of the 94-year old LVB in the valuation risks was a bolt from the blue applying Basel III regulatory norm. Investors will henceforward be wary of staking their money in bond markets.

Against this backdrop and with the resurgence of Covid-19 in the key market areas of US, Canada, Australia, UK and Europe, is this time right for announcing a new window for private corporates and NBFCs to enter the banking industry? At least two reputed economists belonging to the same school of thought, Raghuram Rajan and Viral V Acharya, opine that it is an unwise move. Governance concerns loom large.

Debt write-offs

The Economist in its cover story (November 19) warns that the poor countries are likely to queue up for debt write-off if China were to write off even one nation’s debt. The current week cover story ‘Democracy in retreat’ also indicates that sovereign risks are on the rise and fuelled a resurgence of Covid-19 after it showed signs of abatement in the short term.

Forex risk in regard to foreign portfolio investments coming from Europe, Canada, Australia and the REPC nations would require careful assessment in the short and medium term as we have been aggressively looking for foreign portfolio investments to surge in the short term.

Both in investments and credit the uptake seems as uncertain as pandemic. Inflation is on the rise at 7.6 per cent and food inflation at over 11 per cent in the second quarter of FY 20-21 coupled with sluggish demand and low employment, the next monetary policy committee faces a daunting task of interest rate regulation.

The recent failures of banks also indicate lax supervision, regulation, and governance. It is also a warning signal that the RBI should not be content with macro management of banks. Stability of the financial sector from all the above angles, therefore, needs concern and care.

The writer is an economist and risk management specialist

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