‘My interpretation is that there are limits on growth of private sector banks’
By Ankur Mishra and Malini Bhupta,
At the start of the year, the banking system was bracing for a big shock. But nine months into the pandemic and after some very careful assessment of stress, things don’t look so bad. In an interview, KV Kamath, chairman of the RBI expert committee on resolution framework for Covid-19-related stress, tells Ankur Mishra and Malini Bhupta that while there will be takers for the moratorium, at the corporate end things won’t be as severe as he thought. Kamath also said there are limits on growth of private sector banks. Excerpts:
Nine months into the pandemic, how has India fared?
At an individual level, things got reset by early April. By April-end, my mood was positive that things were happening. When we saw the May numbers, we were seeing this change also at the corporate level as they were putting together capabilities to deliver in terrible conditions. It was clear that the white-collar services sector could work from home. The big doubt was if manufacturing could come back. Interestingly, by June, corporate India’s mood was far more bullish as they had gotten their supply chains working. A large part of India was under lockdown, but manufacturing was working and agriculture was strong. While the first quarter (Q1) was virtually shut down, things were getting back to normal in June. What happened in the second quarter (Q2) was a pleasant surprise to me, even though I had expected things were going to look good from June onwards.
Collections have improved but bounce rates remain high as many are not able to pay EMIs. What is the extent of pain that remains?
At the retail customer end, there is a lot of discipline, unlike 2006-07, when the customer thought not paying back was an option. This time around, retail borrowers are working to maintain their (credit) scores. I would guess that there will be takers for the moratorium. At the corporate end, it won’t be as severe as we thought.
The regulator believes that more banks are needed. Do we need more banks or better regulations to regulate existing banks?
We need both. Let’s look at the size of the economy. I will stick to what I said on the internal working group and the Reserve Bank has the final call. The working group puts out very interesting metrics. If you look at China’s banking assets to GDP, it is 170%. In India, it is 70%. We need much more from the banking system. Our existing banks can grow but there is a limit to bank growth. Any bank growing beyond 15-17% is a red signal for a regulator. When you grow at that pace, the propensity to make mistakes is significantly higher than normal rates.
The second point being made in the paper is that you have a skewed banking system. In the last few years, larger part of lending happened from a few private banks. A large part of capital raising too was in the private sector and that came from the market. For public sector banks, capital came from the government, barring a few PSU banks. My interpretation is that there are limits on growth of the private sector banks. They cannot grow at the pace required to support the economy. So, you could have a problem going forward.
Do you think we have hit the bottom of the rate cut cycle or there is a further room for the rate cut?
I would think as long as we have the connect between inflation and interest rates, we probably are at the bottom. I was very encouraged by the stand taken by RBI governor who maintained an accommodative stance. I am sure any policy maker reserves the right to correct the situation, if required. To me, this is a happy state of affairs, where home loan is available at 7%. I think this is a good phase to be in, and it will provide momentum.
Many small and large corporates often complain about the higher interest rates at which they have to borrow. If India wants to be competitive and well capitalised after the turmoil, high capital cost is going to be a constraint. How would you suggest to fix this problem?
This is been a major problem in several contexts. In China, lending is around 5% to a prime customer. Consequently, interest on deposit is 2.5%. In China, a retail borrower gets money at around 6%. In India, indeed, 12% used to be the borrowing rate for a retail borrower or a corporate borrower. If an asset goes bad in China and the borrower has taken money at 6%, it will take 12 years for the carrying cost of this asset to become double of what it was. In 12 years, you can logically expect there will be one or two economic cycles, which will allow the asset to be taken out of the system. In India, you juxtapose 12% interest rate, instead of 6%, and your asset’s carrying value doubles in six years. So, you now have an NPA (non-performing asset) which doubled in six years, compared to China. Now, six years is hardly one economic cycle. You do not have an economic cycle whereby you could have set the asset right.
I would want to start with the first principle. The general philosophy is that you cannot bring interest rates below inflation. Though I see elsewhere for a short period, the rates have been significantly lower than the inflation rates. For example, after the 1997 South East Asian crisis, interest rates were significantly lower than Inflation.
There is another, very sensitive aspect. Can you really afford to bring down the depositor’s rate? The worry actually is the retirees and people who are dependent on interest income. There is an interesting solution. Why don’t you make targeted benefit transfer to these people? What you are targeting then is providing the difference between interest rates they would have got earlier and what they are getting now. By doing this, you are bringing down the systemic interest costs, which will increase systemic profits, and thereby tax collections. These incremental tax collections should defray the benefits transfer. So there is a solution, somebody will have to think through this, and see whether it can be implemented or not. Technology-wise it is absolutely implementable.
Is it time for infra banks?
Yes. That would mean that you have an infra bank. You can give it whatever label you have. My only suggestion would be that we ought to have a significant capital. If you are looking at large outlay, it needs to have a capital to take that exposure. And secondly, it should put checks and balances from Day One. It could have a government support. So, we move to a situation where you have an implementing agency, which is a special purpose vehicle of the government. Therefore, given the growth of the insurance companies and growth in technology, it is right time for infrastructure banks.