FE Editorial : Bend to lend

Dec 25 2008, 22:13 IST
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SummaryIndian corporates need to raise funds, but banks are not proving to be good sources. Can this situation be changed? Before answering that question, we must appreciate under what conditions banks are keeping lending rates high.

Indian corporates need to raise funds, but banks are not proving to be good sources. Can this situation be changed? Before answering that question, we must appreciate under what conditions banks are keeping lending rates high. And the point to note is that these are conditions under which banks should not be doing this. The yield on the benchmark ten-year government paper is at around 5.6% and, therefore, in the repo (6.5%) and reverse repo (5%) corridor. When the ten-year G-sec yield was in the repo-reverse repo corridor in the October 2000 to August 2004 period, monetary policy was easy, inflation was falling, interest rates were not hard and banks did not look like Scrooge (to take a Christmas metaphor). The missing link is that this time around, banks’ perception of the risk of lending to private sector borrowers is very high. That’s the reason why banks continue to practice what’s called lazy banking. This has happened before. But the cost of such banking now is much higher. What can change this? A significant, not a moderate and already discounted, cut in RBI’s policy rates would seem to be called for. RBI’s foot-dragging on what it presumably sees as adventurous cuts in policy rates, therefore, simply keeps the banking game as it is. The game may change if rate cuts have a real bang.

But we must also consider another thing. Banks are especially scared of non-performing assets now—the confidence of everyone in everyone else is low—and public sector banks are especially scared since NPAs can cause sarkari bankers all kinds of trouble. Therefore, even assuming handsome rate cuts, there may be a need for banks’ behaviour to change—from making loan decisions on the basis of borrowers’ recent cash flows to giving loans by looking at future cash flows. That is, banks have to take a bet on the future health of basically sound borrowers who are having current difficulties. This may need prodding, as they say, from certain quarters. And this highlights the shocking official unwillingness to liberalise the bond market, for example, allowing FIIs to participate without any restriction. This is one source of corporate funding that can be energised with very little effort. So, the returns on change are high. But the policy establishment seems not to understand this incentive.

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