The parliamentary standing committee on finance headed by Lok Sabha member and former minister of state for finance Jayant Sinha has noted in its report that banks are parking their stressed assets with asset reconstruction companies (ARC) to hide the actual extent of bad debts and cautioned that this practice should not be encouraged. The committee promulgated that banks should instead be encouraged to reduce their leverage.
“The ARCs have become an instrument to park the non-performing assets (NPA) of banks as simply a window-dressing exercise. The committee would therefore recommend that this policy should not be misused in such a manner, as it does not really serve the purpose of resolving NPAs,” the report tabled in the Lok Sabha says.
“Muted growth in assets, steep losses and erosion in capital have led to the build-up of high leverage in the banking system, particularly for public sector banks (PSBs). The committee noted that the problem with high leverage is that it magnifies profits when the returns from assets are healthy but it also blows up the losses in case of low returns," the report says, while citing the details of the losses reported by some public sector banks (PSBs) in the past few years along with their respective leverage ratios.
The committee observed that the bad debt problem in the banking sector is 'transient' in nature and the present ‘grim situation’ should not be treated as an alibi for privatisation of PSBs.
The committee also mentioned that the Reserve Bank of India's (RBI) revised framework on bad loans led to rise in such loans in 2017-18 and urged the regulator to review the guidelines.
"RBI's framework on resolving stressed accounts has resulted in sharp rise in bad loans in 2017-18, so much so that the bad loan provisioning has eaten into the earnings as well as the capital of the PSBs further accentuating their problem of leverage. The committee are concerned that with limited scope of improvement in earnings, at least in the near term, existing high leverages of PSBs could inhibit their lending and lending capacity, which may in turn adversely impact the growth prospects in our economy," the committee's report said.
The committee exhorted the government to “focus their endeavour to speed up the establishment of the new ARC and new asset management company (AMC), which was announced in the financial year (FY) 2021-22 Union budget, to consolidate and take over the existing stressed debt and manage and dispose of the assets to alternative investment funds (AIFs).”
The committee indicated its satisfaction with the 'coherent policy response' by the government in resolving the bad assets problems in banks.
The committee was told by the government that gross non-performing assets (NPAs) of banks have come down to Rs5.77 trillion in December 2020 from Rs8.96 trillion in March 2018.
There was a record recovery of Rs2.27 trillion during this period and asset quality as a percentage of lending improved to 2.32% from 7.97% of net NPA (bad debts after provisioning).
Also, the capital adequacy ratio improved to 13.74% in December 2020 from 11.66% in March 2018 because of capitalisation of government-owned banks.
The government infused Rs3.17 trillion in banks, while the lenders mobilised over Rs2.49 trillion themselves. As a result, provision coverage ratio in banks improved to 87.5% in December 2020, from 62.7% in March 2018, reflecting increased resilience, the committee observed.
The committee also noted that, despite several steps taken by the government to nurse back health of the PSBs after the asset quality review of the RBI, “the large legacy NPAs remaining unresolved or unsettled cannot be ignored.”
The committee reiterated that large legacy NPAs must be segregated for resolution, allowing banks to move ahead with their regular business “without getting bogged or dragged down with legacy issues.”
"The committee hopes that the RBI will adequately factor in the prevailing scenario the need to uplift the banking operations and business while reviewing their regulatory guidelines," it added.
“In this connection, the Committee would recommend for a new law to set up a public credit registry (PCR) as recommended by the YM Deosthale Committee constituted by the RBI for structured sharing of credit information and follow-up action among banks. Such a mechanism will also go a long way in pre-empting/detecting frauds,” the report recommended.
The committee has urged the Union government to expedite setting up of the PCR without delay, “as it would play as an important tool that will collate the borrowing history of both individuals and corporate borrowers”.
The report noted that the “proposed PCR will be able to provide an objective and authentic financial information of borrowers, which will strengthen credit culture and fill the credit information gap”.
“The Committee desires that both the RBI as the regulator and the Central Government as the majority stakeholder in PSBs should formulate coherent policy responses, which will enable and empower the banks to overcome the challenges facing them, particularly those emerging due to the COVID-19 pandemic and chalk out their growth path for future with confidence,” the panel report said.
The panel was critical about high write-offs and leverage in banks particularly in public sector banks. It said 16 large and mid-sized PSBs wrote off more than Rs31,000 crore in the June quarter of 2018-19, an increase of 37% year-on-year (y-o-y), whereas the loan books grew only 4.5% in that period.
“Although the situation is no doubt grim, the committee would remain optimistic that as most of the large legacy NPAs get resolved or settled either through the Insolvency and Bankruptcy Code (IBC) process or outside it, the consequential recoveries or write-ins will help the banks shore up their balance sheets.”
“The need of the hour for the banking sector is to look ahead and progress with vigour and vitality,” it said, adding, both the government and the banking regulator RBI should formulate coherent policies to overcome the present challenges and chalk out their growth path with confidence. While doing so, special focus should be given on challenges emerging from the COVID-19 pandemic.
However, the challenges should not be an excuse for privatisation of banks, the panel said. “In this connection, the committee would like to emphasise that the present crisis which the committee believe is transient, should not become an alibi for privatisation of PSBs.”
The standing committee further noted that the reply furnished by the finance ministry on steps taken to improve the effectiveness of ARCs include the revised framework circular issued on 1 September 2016 which entails facilitating debt aggregation at the level of ARCs, strengthening transparency and price discovery and stipulating disclosure requirements.