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The banking system serves as the backbone of every nations economy. And for an economy to remain healthy, it is vital that the banking structure grows swiftly and maintains stability. Of late, the Indian banking sector seems to be in jeopardy on account of the surging Non Performing Assets, more commonly referred to as NPAs. This article will further scrutinize the increasing menace of NPAs and the repercussions that follow.

The loan a bank lends out is its asset. A Non-Performing Asset is a loan which is on the brink of default by the borrower, i.e. which does not produce any income. This, in turn, causes the value of the loan assets to decline. Banks usually classify loans as non-performing when the interest on them or the principal hasn’t been paid after 90 days.

The Reserve Bank of India, in its Financial Stability Report, released in March 2016 projected that the gross NPAs could increase to 8.5% of the total advances by March 2017 from 7.6% in March 2016. This is an alarming situation, given that the gross NPAs dropped down to 2% of the gross advances in 2008-09. There have been questions raised on the efficacy of the banking system of the country and also with regards to the reforms that are necessary to alleviate the prevailing situation.

Which parties are accountable for such delinquencies? Is it due to laxity on part of the banks? Or, are the bank borrowers going through tough times? Or is it a cyclical phenomenon at large?  Such questions have been raised and hence the article further inspects the causes leading to the rapid growth of NPAs in Indian banks, PSU banks in particular.

The rising incidence of stressed assets has been attributed to the domestic as well as the global economic slowdown- tepid demand has made it difficult for the borrowers to pay back. Continuing ambiguity and turmoil in the global markets have led to lower exports, in turn hurting the Indian industrial and corporate sector making it difficult for them to repay loans.

The situation is often seen as a product of crony capitalism – The priority sector for the public sector includes PPP projects which have been awarded to private partners without competitive bidding, having inadequate professional expertise. Indiscriminate lending by banks without looking into the credit worthiness of the borrowers is also a significant reason for defaults. The sluggish legal and monitoring systems prevailing in the country at large, lack of channelized efforts by the banks, and poor debt recovery measures employed by banks go on to further aggravate the situation.

The sheer rise of NPAs is a cause of concern as it would lead to scarcity of funds in the Indian security markets. Few banks would be willing to lend if they aren’t sure of recovery of the amount as a result of which there would be a confidence crisis in the market, shooting the interest rates thus proving detrimental to investor sentiments. This will impact a developing economy as ours and hence the RBI and the government should put systems in place which would effectively help in addressing the menace caused by NPAs.

The affected banks should outsource the process of dealing with stressed assets to Asset Reconstruction Companies (ARCs) which specialize in recovering debt. Not all banks have the expertise, resources or the time to deal with NPAs effectively which is why these ARCs play a handy role. Corporate Debt Restructuring and Strategic Debt Restructuring are ways through which NPAs can be recovered. Creation of Bad banks is also a commonly recommended solution to the mess. A well-known instance of the aforementioned was the creation of Grant Street National Bank in order to house the assets of Mellon Bank in 1988. The Financial Crisis of 2008 also revived interest in this solution, as the managers at some of the world’s largest institutions thought of segregating their NPAs into such banks.

Fortifying internal processes in the banks by maintaining vigilance and putting in place stringent monitoring and audit procedures to keep a check on the flow of funds would be instrumental as well. Banks should focus on enhancing technology, data analytics and internal skill sets on credit and risk assessment.

The RBI has also issued guidelines on a ‘Scheme for Sustainable Structuring of Stressed assets’ (S4A) which can be put in force to ease the situation. Also, the RBI, in order to make the reporting of NPAs more rigid, had introduced the Asset Quality Review. The passing of the Insolvency and Bankruptcy Code by the Parliament is a significant breakthrough and paves the way for much-needed reforms in recovering bad loans.

Another solution the RBI is trying to come up with is to strengthen the bond market to a great extent. The rationale behind this is that companies are forced to take loans from the bond market from normal investors who can take over such varieties of risks. The manner in which the RBI is increasing this is by hiking the interest rate on loans after a certain limit. Since the people who are stuck in NPAs are corporate houses at large, they will be forced to tap into the bond market. Moreover, you can only get loans in the bond market if your company has a good credit rating, which will come about only if the company comprises good managers and efficient disclosure norms. Capital infusion, freedom from interferences from the government and hiring of more eminent professionals in the top management of the affected banks are required as a part of the immediate solution as well.

An analysis of the current scenario brings us to the point that the issue is multi-faceted, which is why it has to be dealt at multiple levels. The government cannot be expected to bail out PSU banks with the taxpayer’s money every time they fall into a crisis. What has been a ray of hope is the kind of attention with which this issue has been received by the policymakers and bankers. Right steps, timely actions and a revival of the economy are quite essential to put a lid on NPAs. The trite maxim – ‘Prevention is better than cure’ should be made a priority in this case if the nation wants to curb this menace.

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