The Reserve Bank of India's (RBI) updated "prompt corrective action" (PCA) framework could suggest a greater willingness to take regulatory action to address problems at struggling banks. However, according to a ratings agency, its implementation is likely to be effective only if it is matched by credible plans to address the significant asset quality issues and capital shortages of banks.
In a report, Fitch Ratings says, "The RBI primarily limited itself to restricting bank lending under the previous PCA framework. The scope for possible regulatory actions has been broadened under the amended framework, but it remains uncertain to what extent the RBI will use the tools it has just made available."
"Moreover, the RBI will not be able to address problems in the banking sector on its own. Significant efforts to resolve bad loans, for example, would leave banks in need of recapitalisation, given that haircuts and increased provisions would be required. State banks are generally in a poor position to raise new capital, which makes them largely reliant on the government for recapitalisation," the ratings agency added.
The RBI has tightened the thresholds - for capital ratios, non-performing loans (NPLs), profitability and leverage - at which banks enter the PCA framework. Fitch says this appears to be an acknowledgement of the significant asset quality stress in the system and that more banks are in need of regulatory intervention.
PCA was previously viewed as an extraordinary step, which the RBI urged banks to make great efforts to avoid. That now looks likely to change. More than half of state-owned banks would breach at least one of the new thresholds, mainly owing to high NPLs, based on their latest financial reports. The new PCA framework will be invoked on the basis of the banks' FY16-17 financials, which they are still reporting.
The RBI has also given itself greater discretion in terms of the measures it can use to intervene in banks once they fall under the PCA framework, which suggests it has recognised a need to take corrective action at an earlier stage when banks run into difficulties.
The previous PCA, in contrast, explicitly reserved the most interventionist actions for banks that had breached more extreme thresholds. It is possible that intervention could involve forcing banks to conserve capital, if other actions do not address problems. The risk of non-performance on bank capital instruments may therefore have risen.
According to Fitch Ratings, the actual impact of the new PCA rules will depend on how the RBI uses them. "Two circulars released on Tuesday, which pressure banks to make provisions above the regulatory minimum and require further disclosures on NPLs, point to the RBI's seriousness. These circulars might weigh on bank earnings in the next round of reports. Should the additional disclosures reveal weaknesses that are greater than expected there could be further pressure on the banks' Viability Ratings," it added.
The ratings agency feels that RBI may use the PCA framework to identify weak banks as candidates for mergers. It says, "State Bank of India (SBI) took over five smaller lenders earlier this month, and further consolidation could be part of the overall strategy to clean up the banking system. However, mergers would also require the support of the government."
Since the PSBs are becoming weak by day due to mismanagement of advances portfolio resulting in the accumulation of non performing advances and stoppage of of expansion of fresh credit for productive purposes, there is an equally and urgent need to make them highly professional and commercial in their management of credit and risk to ensure that the fresh formation of NPAs does not occur any more and if at all they recur, they need to be liquidated and taken care of by banks and bad borrowers themselves through some self correcting mechanism in place. A small levy of penalty based on banks and borrowers’ conduct of loan accounts will do the trick. It is rather unfortunate to observe that though the cost of funds for banks has come down considerably thanks to sudden spurt in deposits at low interest rates after demonetization of high denomination notes, banks are finding it extremely difficult to cut the lending rates and find avenues of credit expansion thereby creating a serious uneconomical mismatch of assets and liabilities. The solution for slow pick up of credit lies in changing the business model and to realign the assets side removing the NPAs from the balance sheets and build up of new short term credit and less of infrastructure loans. Long term bonds which can take care of infrastructure finance can also rescue both the banks and the Government to find resources. If these bonds are made tax free, public subscription is also guaranteed without any limit.
What is needed now is that the Government should keep away from banks, make the Banks Boards Bureau more accountable in its expected role of individual bank’s performance, make the RBI to intensify its regulation and supervision over formation of bad debts and improve the quality of loan assets. After all what the economy needs is improvement in its overall performance in terms of better macro economic fundamentals like investment, production, consumption savings, employment and equitable distribution of wealth and for that a strong banking system is sine qua non.
Bankable Bad Loans!
The More things appear to change, the more they are the same.
India is all about appearance, never about substance. Like RD Parades and Fleet Reviews rather than putting an end to threats to security like the Constitutionally fomented and pervasive incompetence and corruption that has ensured that India cannot even manufacture a reliable and effective rifle or pistol let alone combat aircraft. India is about funeral parades rather than protecting soldiers lives.
Why would RBI be different? How will amalgamations address the source of the problems? Will it address staff competence and integrity that has been severely corroded by unionism, reservations and seventy years of falling National standards? Will it address, or in any way reverse, the Nationalization of Banks in 1969 which turned Banks into Bharath Sarkar ki Sampathi to be plundered by the Politician-Bureaucrat-Police-Judge-Preferred Religions, Chosen Castes, Select Tribes and the rest of the Constitutional Kleptocracy and their cronies for their exclusive privilege, pomp, pleasure, pelf, and perversions?
What are the sources of the problems? Will the RBI dare confess to their own collusion by way of ineffective and inadequate inspections, guidelines and follow through as well as meek surrender to Government's populist, anti- National, uneconomical and non bankable policies since 1949? Will the successive Finance Ministers. including the current President of India, come clean on the methodology, and processes by which Bank Chairmen and Boards of Directors were selected and appointed since 1969?
plus ça change, plus c'est la même chose