Waiving interest on all loans would cost Rs 6 lakh crore, and bankrupt banks; best to restrict this to small borrowers
The Supreme Court (SC) has directed the government to quickly implement the waiver of “interest on interest” for borrowers with an exposure of up to Rs 2 crore, asking it to do so by November 2. While the hearings on the matter will continue and a final verdict is some time away, the apex court, it would appear, is comfortable with the idea of the government picking up the tab for the loss banks would incur by not charging the compound interest on exposures that were allowed a moratorium. The decision would come as a huge relief for both banks and the Reserve Bank of India (RBI). While there were no specific statements to this effect, it would appear from the apex court’s observations on Wednesday that it is not going to recommend a waiver of compound interest for bigger exposures—of more than Rs 2 crore. In other words, the government will reimburse banks for compound interest due only from smaller borrowers.
Indeed, while waiving interest on loans—simple or compound—can never be a good practice since it creates a moral hazard and vitiates the borrowing environment, given the unprecedented pain caused by the pandemic, the SC’s view is understandable. What is important is that the SC has allowed the government to pay the bill, sparing the banks, and also that the waiver is restricted to just the smaller borrowers. Indeed, the moratorium itself should not have been offered on a blanket basis, and the banks should have been left to decide which borrowers deserved the break; as bankers pointed out, even borrowers who were capable of paying the loans refrained from doing so. In its affidavit to the court, the government had pointed out that waiving the interest on all loans and advances, across all categories of borrowers, for a period of six months would cost Rs 6 lakh crore. Clearly, banks are not financially strong enough to bear this burden; it would wipe out a substantial part of their net worth and make many of them unviable. For instance, if State Bank of India was to waive interest for six months, over half its net worth would be eroded. As the government rightly observed, lending institutions need to survive the current crisis, and critically, promises made to depositors need to be honoured. If customers are to be paid interest on their deposits, borrowers need to pay interest on the loans.
Experts have rightly pointed out that not all categories of borrowers are equal; for instance, a borrower who has a home loan or credit card dues of Rs 1.5 crore would be different from an SME with an equivalent loan. It would only be fair if the government specifies different sub-limits for each segment of borrowers because taxpayers should not be subsidising those who can afford to pay the interest. Hopefully, the courts will accept these sub-limits. RBI has also been concerned, with the SC directive to banks asking them not to classify any loans as non-performing assets (NPAs) if they had not been declared as such on August 31. Hopefully, banks will soon be permitted to classify loans according to the rules because it is important that they provide for them immediately. Given how a big chunk of loans is expected to go bad, it is important banks set aside enough capital for these losses.