With public sector banks vying to be back on track with early signs of improvement in the asset quality during Q2 of FY19, intense support is needed to provide them the escape velocity to catch up with their private peers. The recent extension of timelines by another year for compliance with Basel III standards of capital adequacy could offer a respite. Among the improvements, more significant is the slowdown in fresh slippage of loans into non-performing category turning the tide towards better asset quality.
In fact, fresh accretion of gross non-performing assets (GNPAs) was unstoppable in the last three years after banks were required to bring better transparency in asset classification. The huge stock of loans pooled in the restructured category gradually moved into GNPAs calling for additional provisions that brought down the profitability. As a result, the stock of NPAs swelled quarter after quarter adding to the pile exacerbating the asset quality woes.
The threatening proportion of bad loans drew the attention of key stakeholders to work out strategies to resolve them. With recognition of all forms of bad loans — NPAs and stock of restructured loans — now fast coming to an end, the quality of assets in future are set to improve. The accumulation of NPAs to a high continued up to March 2018 despite write off to the tune of Rs 1,44,093 crore during FY18, of which PSU banks alone have written off up to Rs 1,20,165 crore. This is the first quarter of FY19 that the rise in NPAs has stopped and some early signs of a drop in its levels are seen on an aggregate basis.
As of September 2018, the total bad loans of PSU banks stood at Rs 8.69 lakh crore, a decline of 3% from Rs 8.96 lakh crore recorded in March 2018. However, the total NPAs of these banks still remain very high. Their GNPAs stood at 14.08% in September 2018 as against 14.58% in March 2018 with modest improvement by 50 basis points (one basis point is one-hundredth of a percentage point). Of the 21 PSU banks, 13 have shown improvement in asset quality.
The Big Five PSU banks that share a major pie in the asset size have shown improvement in asset quality indicators, which need to be sustained to build upon the three-year arduous work. The key asset quality indicators will reflect the trends. (See inforgraphics) Thus the asset quality data of these Big Five ostensibly reflects the improved indicators. Even some of the small-sized banks operating under the Prompt Corrective Action (PCA) mandate of the RBI have shown improvements leading to stability of asset quality at the industry level.
In a bid to contain the NPA levels, many banks followed an accommodative approach in league with borrowers. Restructuring loans and providing additional facilities to ensure servicing of existing loans have been common. The disequilibrium in credit risk due to such increased exposure was ignored to achieve higher levels of business growth. By using such strategies, loans used to be classified as restructured to maintain standard classification instead of NPA. Thus, the sanctity of loan contract was diluted with opaque methods of disclosure of asset quality. The correct NPA position was not reflected in the books of the banks. This eventually led to a wide divergence between the NPA data of banks and that of the RBI causing great concern.
In order to assess the actual state of NPAs, the RBI introduced asset quality review in September 2015 prompting banks to correctly recognise bad loans in the system and removed forbearance on restructured loans so that banks do not get away with relaxed provisioning norms against them. These two tools have worked as game changers to resurrect the asset quality. They prompted banks to recognise NPAs and fall strictly in line with prudential standards in letter and spirit.
Impact of NPA Spurt
Due to the impact of exponential growth in GNPAs, most PSU banks turned into loss-making entities due to huge additional provisions and low off-take of credit. The negative return on assets and dip in capital adequacy ratio led to adverse market sentiments. Prompt Corrective Action has been imposed on 11 of the 21 PSU banks. The slowdown in credit growth led to a loss of market share of these banks to competitors. The protracted indifference towards quality of loans and slackness in monitoring of credit caused irreparable damage. The trend needs to be reversed in the long-term interest of the banking system. The RBI could not further delay disciplining banks to adhere to prudential standards. It caused short-term pain with prospects of long-term gains.
With concerted damage control initiatives by all stakeholders, the PSU banks are gradually coming out of poor asset quality ordeal. There should be no slippage in the crossover. With the entire focus of the RBI and banks on NPA recovery and rigorous time-bound monitoring of credit, the PSU banks should stabilise asset quality. The mandatory use of Insolvency and Bankruptcy Code (IBC)-2016 and mass awareness about its implications stripping ownership of delinquent borrowers should lead to improvement in loan repayment culture.
Such transformation in the loan recovery ecosystem can improve asset quality in the long-run. Learning from the experience, the PSU banks should not lose focus on building robust skill sets in (i) improving quality of credit origination (ii) reporting and monitoring of credit (iii) timely use of legal tools for recovery of loans, more importantly, the IBC. The momentum created in the last three years to augment asset quality should not be allowed to dissipate. Any let-up in the garb of quick gratification to the borrowing community could be disastrous. It will be imminent to discipline the borrowers and bring a cultural shift towards restoring the sanctity of loan contracts in the long-term interests of economic well-being.
(The author is Director, National Institute of Banking Studies and Corporate Management, Noida)