An Analysis A Day: Re-capitalisation of Public Sector Banks – How did we get here?

The Finance Minister of India Arun Jaitley dispensed a mini-budget on 25 October 2017 in an attempt to ward off an ominous economic slowdown. Among the key measures announced, the Ministry’s plan to infuse nearly 2.11 lakh crore into highly-stressed banks brought cheers and optimism, reinforced ubiquitously by bank stocks increasing by nearly 2 percent in the NIFTY index and SBI and PNB adding nearly 50 percent on their stock values. Broadly, this signalled the government’s brave attempt to tackle the lingering Non-Performing Assets (NPAs) scenario, where 18 Public Sector Banks (PSBs) managed to rack up an astonishing NPA sum of 9.5 lakh crores. As a CARE report observes, SBI, Punjab National Bank, Bank of India, IDBI Bank, and Bank of Baroda account for nearly 48 percent of the total NPAs. Before we better understand what recapitalisation entails, central to this are two questions: how did banks come to such a staggering NPA figure? It was not as if the borrowers defaulted overnight or within the span of a year. Second, what was the nature of political (in)action that was party to this crisis? Despite the policy measure being a structural one, it is imperative to examine whether excessive interference or lack of requisite political direction led us to this predicament.

Inheriting loss

Firstly, the NPA scenario did not unravel in a jiffy. From nearly 40,000 crores in 2007, PSBs were already racking up NPAs to the order of 1 lakh crores in 2011, a figure that subsequently rose to 2.11 lakh crore by September 2013. Despite banks instituting loan recovery policy – mandated by an RBI directive in 2007 – the above mentioned PSBs failed to recover or salvage bad loans. Interestingly, NPAs totalled around 42,106 crores (not lac crores!) in 2007. Over a ten-year period, NPAs have risen by nearly 2000 percent!

Secondly, politics and banking were strange bedfellows, further blighting the scenario. Jaitley pointed to the indiscriminate lending exercised by banks during the period between 2007 and 2012, when the economic growth was more stable. But, the UPA-II was well aware that NPAs had increased to nearly a 1 lakh crore in 2011, yet little was done to adopt far-reaching measures and stymie lending or salvage bad loans? The Enforcement of Security Interest and Recovery of Debts Laws (Amendment) Act, 2012 for removing regulatory bottlenecks in the recovery of bad debts – such as including cooperative banks or using immovable property for recovery – was too little, too late and failed to tackle underlying structural problems. It wasn’t until former RBI governor Raghuram Rajan held accountable the industry and banks for under-reporting NPAs, that the hornet’s nest was finally stirred. The NDA government took stock of this problem up on its election in 2014 and subsequently promised to re-infuse funds into the banks to meet Basel III norms, yet waited for nearly four years before initiating this mega process, conveniently prioritising political capital.

India’s Lehmann Brothers moment?

Disappointingly, few lessons seem to have been learnt from the 2008 subprime global crisis, especially as far as banking sector bad loans remain concerned.The NPA scenario feels more like the 2008 mortgage crisis, and derailing taxpayer’s monies. Huge bailouts were offered by the US government to the big banks.  While Indian banks are cheering on the government’s move, they ought to check their lending impulses in the future and walk a tighter rope between encouraging credit and tackling bad loans More accountability and transparency initiatives in the banking sector are the need of the hour. Yet, PSBs maintain a stoic silence on this NPA farce.

Relief for Banks

Besides the 18,000 cr to be extended through budgetary support – the government will foot this bill from the taxpayer’s money – around 1.35 lakh crore will be raised through the instrument of recapitalisation bonds. Selected banks will add the government directed sums to their books, increasing their net value and then use this added money to buy government bonds. So, the idea that there would be a line of trucks making moves from the RBI to different banks doesn’t figure here. There is no actual transfer of sovereign money. Banks, in turn, use these government bonds to either raise capital through selling them in the international market or using them to generate income through interest on them.

Depending on the nature of the bonds, it might or might not contribute to the fiscal deficit. But it is undoubtedly a Happy Diwali for the stressed banks.



Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out /  Change )

Google photo

You are commenting using your Google account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )

Connecting to %s