To enhance recovery, one strategy could be to incentivise the top PSB management to improve the recovery record
RBI Governor Raghuram Rajan recently observed that large borrowers in the country, by defaulting wilfully, rob the taxpayers, and that obviously makes new funding of projects costlier. Rajan concluded that the need is to apply the current laws in a timely and fair manner, establish new institutions such as bankruptcy courts and, most importantly, change the mindset so as not to ‘lionise’ the wilful defaulters as captains of industry. The issue of lenders and borrowers in the banking industry especially assumes significance in the face of extending financial inclusion involving savings of the innocent and sometimes illiterate and vulnerable population.
The issue of stressed assets (SAs) and rising non-performing assets (NPAs) needs a careful examination. There are traditional reasons such as slowdown of the economy, stress on priority sector, political pressures and global factors. But there could be some more factors which need further consideration. According to available facts, some public sector banks (PSBs) have recorded SAs exceeding 10% of advances while others close to 20%. Yet there are PSBs, interestingly Karnataka-based such as Canara Bank, Vijaya Bank, State Bank of Mysore and Corporation Bank, which have not recorded similarly high SAs.
The need is to undertake extensive research on why SAs are rising in select PSBs. In a diverse country such as India, with different climatic zones, cultures and occupational structures, banking habits differ. Thus, a segmented and focused study on different banks and regions is probably necessary. Illustratively, literacy levels and general attitude helps to determine the choice between saving and term deposits. In banks dominating in north India, the level of savings accounts vis-a-vis term deposits is generally large as compared to the trend in south India. Similarly, banks which broadly have a wider retail base have not recorded higher stressed assets unlike banks which have significant exposure to corporates. But building a retail base requires a different skill-set than extending large loans to select corporates.
The fact that private sector and foreign banks have not been recording high SAs should throw up issues for PSBs. The characteristic difference, probably, is on the recovery of loans. An excellent illustration is the financing of the tractor industry where PSBs have generally pulled out after a sharp rise in NPAs recorded a few years ago but private banks continue to flourish. In the case of private banks, instalments are made on mutual agreement, sometimes based on cropping pattern and collected by agents from the homes of the borrowers, against receipts delivered through hand-held devices. The KYC norms are generally very simple but to ensure recovery, three blank cheques on returnable basis are provided by the borrower before a loan is availed. Thus, the process of lending and recovery are inter-linked with a focus on recovery as an end-product which PSBs, probably, have to adopt from private banks. Also, strategy on ensuring recovery of loans, in all likelihood, requires a different approach for specific economic activity and industry, and region.
To enhance recovery, one strategy could be to incentivise the top PSB management to improve the recovery record. The reward in monetary terms could extend for a stipulated years and, if necessary, beyond retirement. To serve as a deterrent, negative incentives should also be instituted. Rajan observed the example of Barcelona where the ultimate punishment was beheading in case of default. In modern times, it could translate into implications for pension in case the loan extended during the service period, translated into NPAs within a stipulated time frame.
Easy access of public money available to PSBs, having implications for innocent taxpayers, should not be casually handled.
The onus of rising SAs has also to be shared by chartered accountants and auditors who are associated with these PSBs and are responsible for concurrent audits and preparing the balance sheets. Similarly, rating agencies on the basis of which commercial banks take decisions to invest and extend loans to the corporates. Finally, it would be useful to study the qualifications and expertise of the valuers that are on the panels of commercial banks.
Banking activity cannot be divorced from the society and there is the larger issue of declining ethical standards across India. Is there more pressure on banks to lend without considering long-term interests? Is it an incentive structure, lax governance, absence of regulatory architecture or weak enforcement? Ethics in banking are not a soft subject any more, as they bear influence on financial stability, economic growth and jobs. Thus, commercial banks have to ensure there are regular, probably annual, training sessions on ethics for its middle and senior level employees.
Finally, should the government bail out the PSBs with stressed assets? A better alternative for a stern demonstration effect could be to ask the stressed PSBs, who know their customers best, to formulate time-bound strategies to recover loans. In case these PSBs are successful, which implies that taxpayers have been saved of the additional burden, they should be rewarded. In contrast, a financial penalty, to the extent of naive taxpayer’s money that is used in the bailout, should be imposed on the respective PSB that fails to improve recovery.
Rajan has raised a crucial point that needs extensive research in addressing the issue of rising NPAs in PSBs which are different in ownership and follow different strategy to finance and recover loans from private banks. In addition to better training of the staff, standardisation of norms, improvement in credit appraisal, post-disbursement supervision and credit monitoring, there is need to put emphasis and improve recovery. The National Institute of Bank Management and Indian Bankers Association should probably play an important role in such focused analysis of the malady to ensure higher recovery now and lower NPAs in the future.
By Charan Singh
The author is RBI Chair Professor of Economics, IIM Bangalore. Views are personal
(The author has previously worked in a commercial bank and RBI)