Last week, finance minister Nirmala Sitharaman told the Rajya Sabha that scheduled commercial banks have written off Rs10 lakh crore of bad loans in five years and that only 13% of the write-off has been recovered. Separately, the cumulative recovery of bad loans through the Insolvency and Bankruptcy Code (IBC) until September (since the IBC came into existence in 2016) has been just 30.8%.
To those who have read my previous many articles over the past six-seven years, this would not have come as a surprise. There are two issues here—bad loans in banks and the IBC recovery process. They seem independent, but they are interconnected because the first—that is bad loans—determines the outcome of the second, which is resolution through IBC.
Let me lay out the picture again. The bulk of bad loans originates in public sector banks (PSBs). Many loans are designed to go bad. From the sanction stage, there is corruption. Once the case is referred to IBC, there is no asset left to recover. I have explained this repeatedly since 2014 in the context of reforms of PSBs and what IBC can actually deliver. The data has now proven this view.
Corruption and Bad Loans
What is surprising is that all those who are engaged in handling, commenting on and resolving the monumental bad loan crisis never saw or acknowledged that the single biggest reason for bad loans is right in front of them, hidden in plain sight: corruption in sanctioning loans. And hence, nothing has ever been done to make bank officers accountable. On the contrary, officials of the Reserve Bank of India (RBI), ministry of finance and bank officials, have all blamed the problem of bad loans on two external factors: genuine business failures and poor bankruptcy laws. While all the time, it is bankers themselves who are responsible for ensuring that public money enriched the so-called bankrupt promoters.
Dr Raghuram Rajan, former governor of Reserve Bank of India (RBI), while speaking in mid-2016 about PSBs, blamed bad loans on groupthink and herd instinct of bankers, who were apparently chasing businessmen during the 2006-08 boom with their chequebooks. With one anecdote, Dr Rajan extrapolated 'a number of these loans' across trillions of rupees of bad assets of PSBs and absolved the government and bankers of the real reason for bad loans: collusion between bankers and businessmen.
PSB employees are government officials who have no incentive to lend. Behaviourally, they are the best placed to turn down dubious proposals. What incentives drove these officers to chase promoters waving chequebooks, as Dr Rajan so colourfully described?
The answer is obvious.
They had their own personal incentives. When PSBs were not lending during the slowdown post-2010, Dr Rajan even went on to publicly defend them saying that bankers are scared of vigilance inquiry and are, hence, unable to take decisions.
As I pointed out then, he ignored the fact that very few bank officials have paid a price when banks are found to be horribly short of collateral—a cardinal sin in banking—that happens routinely in PSBs. This is especially so, since PSBs always lend against assets and not against cash-flows.
Poor Recovery and Bankruptcy Laws
Most people have forgotten today, but a few years ago, the convenient excuse of bankers for poor recovery was bankruptcy laws. The former chairperson of State Bank of India (SBI), Arundhati Bhattacharya once said, we need a shake-up in the regulatory system and tougher rules for defaulters, as well as “a proper bankruptcy law to help get orderly resolution of (bad) assets.”
Well, the fact is over three decades, policy-makers have initiated half a dozen measures to deal with bad loans, each one tougher than the previous one. Also, any bankruptcy law comes into play after a loan has gone bad, not before. If loans are wilfully designed to go bad because rogue bankers have a personal incentive, what will bankruptcy laws do?
Indeed, the IBC has only proven how wide and deep were corrupt banking practices in PSBs. Anyone with some idea about lending knows that if you want a genuine loan, bankers would impose onerous conditions, including arm-twisting you to buy unnecessary insurance. You cannot get a loan without personal guarantees and also, in some cases, third-party guarantors. There is no reason why banks should be short of enforceable collateral at all.
And, yet, in Alok Industries, Bhushan Steel, Bhushan Power, Monnet Ispat, Videocon, Essar group, Shiva Industries and countless other cases, banks had to write off almost everything.
No banker has been asked what happened to the collateral.
Clearly, the bad loans were not a result of poor commercial decisions, as Dr Rajan and others had argued in defence of the banks. They were designed to fail and loot the PSBs. And that is why banks have recovered only 13% of the loans written off and only 30% at the IBC level.
Will any of this change? Under this government, I hardly note any indiscriminate/ political lending, barring one exception. Hence, PSBs will probably report much lower bad loans. But unless PSBs are privatised, there will always be the danger of a new round of bad loans, especially under a different political regime. On the other hand, as suspected, the IBC process has quickly turned into a morass of shady practices, endless amendments, circulars, ad hoc changes, and retrograde judgements. The bankruptcy process needs to be driven by a market-clearing system, as I have argued many times. But that needs a philosophical shift in thinking, which is asking for too much.
(This article first appeared in Business Standard newspaper)