In the long-run, RBI's new rules are healthy; for now, with NPAs rising faster, capital shortages will rise again
Given the speed at which bad loans are rising, from 9.6% of advances in March 2017 to 10.2% in September 2017, it is not surprising that RBI should want to accelerate the process of NPA recognition and, based on that, their resolution – if an NPA is hidden through ever-greening, for instance, it loses value fast since the highest valuation can be got only if the stress is caught early enough. That is why, RBI has decided to withdraw all current resolution schemes like CDR, S4A or SDR immediately and put them under the new framework. Under this framework, bankers have to report defaults on a weekly basis to the Credit Repository of Information on Large Credits and start on a resolution plan immediately – this resolution plan can be lowering the interest rate, converting part of the loan into equity, extending the loan period, whatever. The banks get 180 days to see if this plan is working – so, if the repayment period of a loan is extended from 10 years to 15 years, the borrower must make its repayments regularly according to the new schedule; when at least 20% of the outstanding principal and capitalized interest is paid back, the loan can be upgraded to a standard account. In the past, once a loan account was referred to NCLT, banks and the company got 180 days to find a resolution, else the company is liquidated/auctioned – now, within 180 days of the default, if the resolution does not work satisfactorily, the bank has another 15 days to send the case to the insolvency tribunal for winding up/auction.
The immediate impact of this will be that, while the growth of NPAs had been slowing down, this will once again accelerate. While RBI puts the stressed advances, including NPAs, at 12.2% of all loans, Credit Suisse puts this at 15.4% or Rs 12.6 lakh crore. The impaired loans, needless to say, would have mostly converted into NPAs, but with the new norms, the recognition will be much faster. And since the rules require two credit rating agencies to do an independent evaluation of the new plan (one if the loan is for less than Rs 500 crore), it is hoped the restructuring will be more realistic than in the past.
All of this means the rush on the insolvency courts will rise tremendously and, if the haircuts that banks need to take on their loans rise from above, say 50-60%, the amount of recapitalization bonds the banks will need will also rise. Till such time that more bonds are issued, that will probably means the weaker PSU banks at least will have little ability to grow their balance sheets. What is more worrying, however, is that apart from industrial loans, the stress will grow in agriculture loans with more farm loan waivers in states like Rajasthan, that in education loans is rising steadily and, with UDAY a near failure, loans to state electricity boards will also start getting affected soon. Since there is no real mechanism to insulate PSU banks from this, indeed the demands of the priority sector will keep increasing, the ideal solution would have been to privatise some of these banks either through strategic sales or by lowering the government stake to below 51%. Since the government is clear it is not going to do this, the future of PSU banks remains cloudy.