After September 2016, there would be a new Governor at the Reserve Bank of India (RBI) following the decision of incumbent Dr Raghuram Rajan to not to continue after his terms gets over. In this scenario, there are four indicators to watch for after the new Governor joins. This includes, tapping of RBI's excess funds for capitalisation of public sector banks (PSBs), operation of stressed asset funds, treatment of restructuring and asset quality review (AQR), and rate cuts, says a research note.
In the report, Religare Capital Markets Ltd says, there are certain ramifications of changes in these four key regulatory areas if the new Governor diverges from Dr Rajan's stance.
Here is the analysis from Religare about the four key regulatory areas and its impact...
1. Tapping RBI’s excess funds for PSU bank capitalisation:
The Economic Survey 2015-16 (pages 19 & 20) highlighted that the RBI’s capital adequacy ratio at 32% is much higher than the median 16% ratio of all other central banks. The government has stated that even if the RBI brings down capital adequacy to 16%, it will free up Rs3-4 lakh crore for capital infusion into PSU banks and/ or the creation of a bad bank to resolve bad loans.
"The government has budgeted only Rs70,000 crore for capital infusion over four years. Considering the huge gap between the capital required and that budgeted, the new governor may agree to use the RBI’s capital for banks. In our view, this creates a clear moral hazard, but proponents of such a move see nothing wrong with the government tapping its own funds for a one-time capital injection under Basel III," Religare says.
2. Operation of stressed asset funds:
The RBI, Indian Banks’ Association (IBA) and banks are in the last stage of finalising norms for the operation of stress asset funds in India. As per media reports, the central bank is against allowing banks to own a majority stake in distressed funds. Also, the RBI believes banks should not contribute meaningfully to stressed funds in the form of debt, as this will do nothing to alter their risk. Additionally, such contributions could involve opaque asset pricing. However, banks are aggressively pushing to be allowed to contribute and/or own stakes in stressed funds.
Religare says, "If permitted by the new governor, this will be negative for the sector as it will mask the true value of write-offs or haircuts required on such assets and prolong the uncertainty over NPAs."
3. Treatment of restructuring and AQR norms:
Banks are pitching hard to the RBI for further relaxation of the recently announced restructuring norms and the upgrade of certain borderline cases that were classified as NPA under the RBI’s AQR.
"Though we agree with certain procedural relaxations or changes, any measures which merely push the problem down the road will be negative for the sector," the research report says.
4. Policy and lending rates:
Religare feels that if the new governor cuts policy rates more aggressively than Dr Rajan, banks will have to lower lending rates.
"We do not rule out further changes to marginal cost of funds based lending rate (MCLR) or base rate norms for better transmission of policy rates. If lending rates come off aggressively, banks’ margins will reduce. The correlation between lower rates and higher loan growth or NPAs is very weak," Religare concluded.
Similarly, it will not be proper to allow Banks to involve themselves much less in a big way in ARCs.
IF NEW GOVERNOR SUCCUMBS TO PRESSURE FOR EASY OPTIONS IT WILL BE THE BEGINNING OF THE END & THE ULTIMATE SUFFERERS WILL BE THE PUBLIC AT LARGE.
Long back, RBI had taken a conscious decision to augment its reserves (Contingency Reserves + Assets Development Reserves) to a level of 12 per cent of the Bank’s balance sheet total. The Bank almost managed to almost touch this level in 2009. The following table indicates the progressive deterioration in the reserves position, since then:
Balances in Contingency Fund (CF) and Asset Development Fund (ADF)(Crore)
June 30 CF ADF CF+ADF As%to total assets
2009 153392 14082 167474 11.9
2010 158561 14632 173192 11.3
2011 170728 15866 186594 10.3
2012 195405 18214 213619 9.7
2013 221652 20761 242413 10.1
2014 221652 20761 242413 9.2
2015 221614 21761 243375 8.4
Source: RBI Annual Reports
RBI’s capital since inception has remained at Rs 5 crore. There is no clarity about the components reckoned for computing the RBI’s capital and capital-like reserves at 32 per cent of balance sheet total. The Survey obviously has depended on the computation of figures by some external agency(the graph given in the Survey is attributed to BIS) instead of quoting from RBI’s Annual Reports.
To meet the internal capital expenditure and make investments in its subsidiaries and associate institutions, the Reserve Bank had created a separate ADR in 1997-98 with the aim of reaching one per cent of the Reserve Bank’s total assets within the overall indicative target of 12 per cent of the total assets set for CF and ADF taken together, accepted by the Bank earlier.
Obviously, the practice of transferring the entire ‘surplus income’ to government when the reserves position of the central bank shows a continuous declining trend(as a percentage of total assets) in the context of the present growth rate of Bank’s asset size, needs a review. Considering the size of RBI’s balance sheet, and remembering that the Bank’s share capital(5 crore) has not been augmented since inception, the reserves position needs to be raised to healthier levels. It is in this context and in view of the internal and external pressures on its income generating capabilities in recent times, as also the nature of shocks RBI has to absorb from time to time, GOI should support the central bank to augment its reserves at least to the level of 12 per cent of total assets which was accepted by the Bank decades ago.
The accounts presented in the RBI Annual Report 2014-15 (Chapter XI-Introductory) shows that the balance sheet size of the Reserve Bank increased by 10.09 per cent for the year ended June 30, 2015 primarily due to increase in foreign currency assets on the asset side which rose by 21.50 per cent and increase in notes in circulation and deposits which rose by 9.57 per cent and 37.60 per cent respectively on the liability side. While gross income for the year 2014-15 increased sharply by 22.66 per cent, the total expenditure increased by 11.92 per cent. The year ended with an overall surplus of `65,896 crore as against `52,679 crore in the previous year, representing an increase of 25.09 per cent. The entire surplus has been passed on to central government. This is based on a review of reserves position made by an internal panel headed by one of the Bank’s directors Mr Y H Malegam which concluded in 2014 that the level of reserves then available was adequate to meet the needs for the next three years.