As for MFs, many of them are backed by strong parents—in India and overseas—and this is the time for them to support their offspring.
With banks having pretty much vetoed exclusive lines of credit from the Reserve Bank of India (RBI) to be used to buy corporate bonds held by mutual funds, NBFCs, and MFIs, or even lend to them, there is a clamour for a government or RBI-led bailout a la the US Fed. The demand, especially from NBFCs, who say they will go belly-up if the junk bonds that they hold are not bought, is preposterous. There can be no justification whatsoever for any kind of sovereign back-stop or partial credit guarantee for NBFCs; no one held a gun to their heads, compelling them to grow at a break-neck speed by creating poor quality assets.
Indeed, the problem of poor asset quality, whether at banks or NBFCs, is not a two-month phenomenon, it has existed for several years now. Banks have paid for it and, to their credit, are treating capital the way it should be treated—preciously. The rest of the financial sector needs to learn. NBFCs have grown their balance sheets excessively, creating assets without having adequate liabilities to fund these. For a long time, many were borrowing short-term money from MFs to fund long-term assets, with the regulators seemingly unconcerned. Asking the taxpayer to bail out irresponsible private sector NBFCs is sheer injustice. A solution must be found without the government playing any role. Perhaps, the quality assets and bonds that NBFCs hold can be bought by banks, MFs, or insurers. A crack team can be appointed to recover the rest of the bad assets from errant borrowers since the NBFCs themselves are unlikely to work hard enough at this. Indeed, the problem with bailouts often is that the bad loans are simply written off, and little effort is made to recover these, so the borrowers go scot-free.
To be sure, balance sheets will need to be drastically downsized, even shrunk, and some businesses will need to be sold, or even wound down. That is the price ambitious and irresponsible promoters must pay, not the hapless and honest taxpayer. The US Fed may have opened up a line of credit to buy corporate bonds, with the US government providing $75 billion of equity capital, but the Indian government cannot be bailing out private sector NBFCs that grew and lent recklessly to risky sectors like real estate.That would be a suit-boot-ki-sarkar.
As for MFs, many of them are backed by strong parents—in India and overseas—and this is the time for them to support their offspring. Let the MFs pool together whatever capital they have, house the illiquid bonds in an SPV, and work on recovering the money. They should also be better capitalised in the future. Fund managers must pay for undue risks, and investors for being greedy and gullible. Taxpayer money deserves a little more respect.