View: Intractability of the NPA issue a major hurdle for its faster resolution

By Deep Narayan MukherjeeOn February 12, 2018, RBI withdrew a host of restructuring schemes such as 5:25, Strategic Debt Restructuring (SDR), Scheme for Sustainable Structuring of Stressed Assets (S4A) and Corporate Debt Restructuring (CDR). An estimated 3% of banking assets currently under such schemes may become non-performing assets (NPAs). Extant estimates of NPA, provisioning and capital requirement may go off-track. Possibly it’s time for a systemic introspection of India’s handling of its NPA crisis and how close are we to its systemic resolution.Here a systemic resolution would imply; i) comprehensive identification of the stressed asset, ii) resolution of the stressed asset (liquidation where required) and iii) recapitalisation of banks for residual losses. A well thought-out synchronised effort is called for between regulator, government and banks’ management.In the absence of which, well-intentioned moves may have unintended consequences. For instance, policy reversal with respect to NPA recognition will add transparency but if the move is not backed by concurrent addition of resources for provisioning or capital infusion, it may create more confusion among stakeholders. Let’s see how India is doing on the three points.Framework for resolving the current crisis: Implementation of the Indian Bankruptcy Code (IBC) and National Company Law Tribunal (NCLT) are among the most commendable steps for resolving the crisis. While other steps are in the correct direction, there has been some meandering if not outright flip-flops. February 12 is a break from the previous approach of regulatory forbearance towards the acknowledgement of economic reality that loans backed by wishful cashflows and weak solvency do not solve on its own.Post 2008, two approaches for systemic bad debt resolution came to fore. One may be called the Iceland Approach and other the US Approach. Iceland in 2009 allowed it major banks to fail, not that it had much choice since in 2009, its debts were $86 billion while its GDP was $13 billion. Icelandic interest rate shot up to 18% and its currency crashed by 80%. But in 2016, Iceland bounced back to 7% plus GDP growth with almost full employment. The US (and Europe) bailed out banks by flushing liquidity, buying out bad debt and zero interest rates.Currently, the US is gradually raising interest rates and withdrawing excess liquidity to normalise banking. In both these approaches, the systems had a reasonable idea of the extent of the problem and its resolution path, no matter how difficult.Intractable NPAs: As of September 2017, gross NPA (GNPA) is Rs 9 lakh crore which is 10.5% of the banking assets with restructured assets being an incremental Rs 1.3 lakh crore. RBI’s Financial Stability Report (FSR) in December 2017 expects GNPA to rise further to 10.8% by March 2018 and 11.1% by September 2018. FSR in December 2016 expected March 2018 GNPA to be 10.1%. March 2017 GNPA was 9.6%, much higher than even the stressed assets scenario of 6.9% as per 2015 FSR. Since 2012, the actual GNPA was usually much higher than initial projections. Such large divergences could have been avoided if cashflow-based debt servicing measures and commercial credit bureau were leveraged for such projections.Provisioning & Capital: Prior to February 12, many players expected GNPA to peak out. Systemic Provision Coverage Ratio (PCR) was around 47% of GNPA. This level of PCR would have enabled the banking system to have taken a haircut of 47% without any further provision or capital requirement. This a somewhat optimistic scenario implies 53% recovery and Rs 4.8 lakh crore of equity flowing into the NPA corporates — a massive amount by any standard. The recent resolution instances suggest that banks may have to take a haircut of 60-70%. An incremental Rs 0.9 lakh crore to Rs 1.8 lakh crore provision/capital will be required on current GNPA level. Rs 1 lakh crore of GNPA requires provisions of Rs 0.5-0.7 lakh crore. Certain market participants estimate an incremental GNPA in the range of Rs 3-5lakh crore. The uncertainty with respect to provisions/equity requirement not only makes banks’ financial planning a challenge but presents a risk to the systemic resolution process.Concerted, Calibrated Resolution Approach: Indian economy is more complex than Iceland, neither does India print the global reserve currency. So neither the Iceland nor the US approach could be fully adopted. However, India needs to fathom its NPA problem more definitively and set more realistic expectation of recovery of bad debt. A cohesive and synchronised joint plan needs to be developed between RBI, government and banks regarding the extent of provisioning and capital required and its mode of funding. Global experience suggests that from peak delinquency levels it takes 7 to 10 years to normalise the banking operations. Also, NPAs of such scale cannot we solved without some pain. Not taking the problem head on may mean India will have below potential growth for a long time, unless of course we become lucky and GNPA has actually peaked as quite a few hope!

Source : View: Intractability of the NPA issue a major hurdle for its faster resolution

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