When Lehman crashed in 2008, unleashing a global tsunami that became a full-fledged financial crisis, a curious thing happened in India. There was a massive flight of deposits from the private sector and foreign banks into public sector banks. The State Bank of India at one point was receiving fresh deposits of over a thousand crore every day! The iconic software company Infosys publicly announced they were moving their large cash balance from private banks (including ICICI Bank) to SBI. This was meant to assure their investors and shareholders that they were playing safe.
By one reckoning over `60,000 crore of deposits must have moved from private and foreign banks to PSBs just in a few months. In the western world there was a complete credit freeze and dozens of bank failures so that Indian branches of these foreign banks were asked to repatriate capital out of India to pay for shortfalls in New York or London. Only the PSBs were flush with deposits.
Why did the public respond this way? Was it due to the inherent superiority of public sector banks or due to their perceived safety? Obviously it was the latter. The perception of safety of deposits in public sector banks is because of an implicit guarantee that the main ‘owner’ or shareholder, i.e. the government of India, will never allow a PSB to go belly up. Depositor money is thus ‘safe’ in a PSB and, as records reveal, no PSB has been allowed to fold up, nor has any depositor lost money.
Unlike failures of private banks like GTB, the worst fate a PSB has faced is a forced merger with a stronger PSB. Of course, there are plenty of failures among cooperative banks, but that is a different story.But in the present day, the PSBs seem a sorry lot. The gross non-performing assets, i.e. bad loan ratio, have climbed steadily from around 7 per cent five years ago to 11.6 per cent as of March 2018. The overall ratio of the commercial banking sector hides large variations within.
For instance, IDBI Bank has an NPA ratio of over 24 per cent while the best performing have less than 1 per cent. It is particularly bad among the PSBs, which average above 12 per cent. Eleven of the PSBs are under the RBI’s Prompt Corrective Action (PCA), which restricts their lending, staff recruitment and branches. The RBI’s latest Financial Stability Report foresees the overall NPA ratio deteriorating further by March 2019 to 12.2 per cent, the highest since 2000.
That period then was a recessionary period with large NPAs whose origins lay in the post Asian crisis of 1997. But thanks to deft macroeconomic management, combined with high growth, low interest rates and moderate inflation, the NPA ratio started declining in 2003 and reached a bottom of nearly 2 per cent by 2008. The high growth phase starting in 2003 benefited from the global high tide of growth and trade.
Unfortunately, this formula is not available to us in 2018. All four macro factors are adverse this year—interest rates, inflation, current account and fiscal deficit. The global growth that seemed to be strong and synchronous is faltering. The high yields on US government bonds combined with high deficit may be pointing to a recession next year. Growing protectionism is crimping India’s export prospects even more. So strong GDP growth needs domestic impulse, mainly from consumption and investment. On the latter, the private sector is not fully providing its share of the momentum, so much of the burden lies on the public sector, which in turn is hampered by the fiscal deficit. So, high growth as a panacea to solve the NPA problem is not an immediate option.
Let’s recognise the banking ‘crisis’ is a problem which requires urgent and constant attention. The latest financial reports indicate that collectively the sector reported a loss of nearly `80,000 crore in one financial year. Much of it is due to a write-off of bad loans. But a significant portion is also the result of fraud. The latest RBI report flags this. The new insolvency process is supposed to help banks get windfall gains, as bad loans are taken off their books. But except for the steel sector, and possibly cement, most other NPAs coming up for resolution could involve ‘haircuts’ of over 60 per cent.
When banks enter the insolvency resolution, they have already written off 50 per cent of the loan, but any additional haircut means more losses. The power sector is another potential minefield of NPAs. One report suggests that writing off loans in the power sector could cause an additional `2.5 lakh crore loss to the banking system.
The Centre announced last October a plan to infuse `2.1 trillion of equity into PSBs. Of this, nearly `55,000 crore was supposed to come from raising equity from the stock market. That does not seem to be likely in the current context. IDBI has for now been rescued by LIC, which has taken a big stake in the bank. That may eventually turn out to be a big win, due to insurance distribution synergy, and if the stock price pops up (much like Mahindra rescued the scandal-ridden Satyam and reaped a handsome bonanza much later). But the IDBI stake acquisition remains an uncertain bet.
PSBs still command huge trust from the depositor public. SBI continues to be a talent factory. Many ex-SBI officers have led distinguished careers rising to the top in other public, private and foreign banks. The new CEO of the much maligned IDBI is an ex-SBI managing director. It is very important to nurse the PSBs back to health while we wait for the macroeconomic cycle to turn. The insolvency process is helping. Greater autonomy and flexibility to PSBs in governance, especially in lending, staffing and compensation, would go a long way.
For instance, the banks now are not even allowed to go the campuses for recruitment! The creation of a ‘bad bank’ to be a temporary custodian of large NPAs may be inevitable, and imminent. The PSBs may also consider reducing government stake to 33 per cent, yet retaining their PSB character, as was proposed in Parliament long ago. There could be a system of golden shares held by the government, which enables it to retain some veto and control. Solutions and ideas for banking revival abound. Now is the time to grab this ‘crisis’ by the horns.
(Through The Billion Press)