How long can depositors bail out banks?

The Centre’s infusion of a whopping ₹88,000-odd crore of capital into ailing public sector banks sometime back should have raised a furore. After all, it was depositors’ money being used to bail out these banks. In light of sharp slippages reported by the likes of SBI in the December quarter, the RBI’s revised framework for NPAs and the shocking scam at Punjab National Bank the massive bank recap plan now calls for greater attention.

Why the complacency

Depositors were irked by the infamous ‘Clause 52’ of the FRDI Bill that empowers the Resolution Corporation overseeing bank defaults to invoke bail-in and cancelling any/all of the bank’s liabilities. Public deposits could be cancelled to fund banks’ losses on bad loans.

But sadly the same depositors have not as much as batted an eyelid at the Centre’s mega bank recap plan. Under the recent recap plan , the Centre simply borrows from the banks to meet their capital requirements. The Centre will raise money by issuing recapitalisation bonds to public sector banks. This money will be funnelled back as equity capital into the same banks. In effect, banks get to convert their liabilities (mind you deposits) into capital to absorb losses and fund their growth.

Hence, while in the past, the Centre has been pumping taxpayers’ money (ironically also depositors’) into PSU banks, this time around, with a bit of financial jugglery, depositors have in effect stepped in to bail out their banks.

Isn’t it welcome that the Centre has stepped in to restore faith in the banking system? True, desperate times do call for desperate measures. And hence, the Centre can be let off the hook for a bit of financial engineering.

But here’s the hitch. In the first tranche of the massive dole out, ₹88,139 crore of capital (₹80,000 crore via recapitalisation bonds) was allocated to 20 public sector banks. Pegged as really the last resort to lift capital-starved banks out of their sordid state, the manner in which depositors’ money has been allocated across these banks, raises some unsettling questions. Given the breakout of the massive scam at PNB which brings to light festering issue of shoddy internal systems and controls at PSU Banks, how can the Centre justify infusing more capital into weaker banks now? Even sums infused into banks such as PNB, that were bucketed as stronger banks, need a review.

 

 

More for the weaker

At first glance, ₹52,000-odd crore being infused into 11 public sector banks, placed under the RBI’s prompt corrective action (PCA) would only seem sensible. After all the Centre cannot afford to toy with the public confidence in state-owned banks. These banks placed under the RBI’s watch, due to high levels of bad loans, consistent losses or breach of capital norms, need utmost attention.

But even so, why did the Centre have to allocate a steep 46 per cent more to these banks than the better performing ones?

Some number crunching raises not-so-comforting questions. The Centre’s much touted differentiated recap approach is based on the premise that while stronger and non-PCA banks have been given capital to fund their growth, PCA banks have been provided with funds to primarily meet their regulatory capital requirement.

That being the case, it is unclear why many banks under PCA have been given capital, way above that needed to just meet the norms. For many banks such as IDBI bank, UCO Bank, Indian Overseas Bank, Dena Bank, Bank of Maharashtra, United Bank of India, their post capital infusion Tier I capital ratio jumps by 300-500 bps (See table; numbers based on September quarter figures after which the infusion happened). Tier I capital norms mandate a ratio of 7 per cent, far lower than the 12-13 per cent ratio some banks would sport post infusion. Why do weak banks need such a high capital buffer?

Going by the recent sharp slippages reported by PSU Banks, it would appear that some of these banks did need the extra cushion to tackle the skeletons waiting to tumble out of their closets. Sharp slippages, mostly out of banks’ restructured accounts has rightly drawn the RBI’s attention.

The RBI’s new framework for stressed assets has now done away with the old restructuring schemes, making it difficult for banks to kick the can down the road. But the new framework will also lead to a sharp rise in provisioning, so much so that there are concerns on whether the mega recap plan will be enough to meet banks’ capital requirement.

If so, then how do we ensure that this is really the last leg of the clean-up act, before handing out yet another bounty to weaker PSU Banks?

Can stronger banks deliver?

There is now heightened expectations from the relatively stronger banks to kick-start credit growth. These nine banks (non-PCA) have been given a much lower ₹35,000 crore under the recap plan. However this is by no means petite. In the last two fiscals put together — 2015-16 and 2016-17 — the Centre had infused around ₹42,000 crore into all PSU Banks.

So with more capital at their disposal, will these banks revive credit growth in the economy? Hard to say given that the loan growth for many of these banks has been lacklustre over the past two years.

Sample this. Bank of Baroda which was provided with about ₹3,000 crore capital between FY15 and FY17, saw its credit shrink during this period. While there are signs of a pick-up in loan growth in recent quarters, sustainability will be key. But given that the NPA cycle does not appear to be bottoming out, a sustainable recovery at stronger banks such as SBI also seems unlikely any time soon.

Remember, if the economy revives, PSU banks will also need to up their ante to compete with their private counterparts. This brings us to the larger issue of granting greater autonomy to PSU banks to run profitable businesses, while keeping the social-economic objective in mind. If weak banks need to set their house in order, better placed PSBs need to strengthen their internal processes before going on a lending spree, a point shockingly evident in the recent lapse of control systems at PNB.

After all, whether it is the Centre pumping in money or liabilities turned into capital, ultimately it is depositors bearing the risk and bailing out banks unknowingly.

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