Non-Performing Assets of Public Sector Banks in India.

ABSTRACT: This article focuses on the problem of increasing non-performing assets of the public sector banks in India between 2013 to 2019. The project highlights the reasons that led to this problem, strategies and policies adopted by the government, their results and a critical analysis of those strategies with the help of IS-LM framework as a supporting evidence.

  Introduction: 

The banking sector is a keystone of the financial system of any country. A smooth functioning of banking sector ensures a healthy condition of an entire economy. The banks create credit in the process of accepting deposits and lending loans. The funds received by way of interests are further used by the banks for raising resources. However, this flow of credit can be hampered by building up of non-performing assets (NPAs) and affects the profitability of banks. The bank’s main source of income is the interest earned on loans and advances in repayment of the principal. If these assets fail to generate income, they are classified as non-performing assets. According to the Reserve Bank of India, NPA is defined as a credit facility for which the interest and/or installment of the principal is "past due" for a specified period. Generally, if a loan payment has not been made for a period of 90 days, the asset is classified as a non-performing asset. NPA is one of the most important indicators to assess the performance of the banking sector.

The recent increase in the Non-Performing assets in the Indian banking sector requires much discussion and scrutiny. The report released on the banking sector of India by the Standing Committee on Finance observed that banks’ capacity to lend has been severely affected by the mounting NPAs.

The Guidelines released by the Reserve Bank of India in February regarding the timely resolution of stressed assets came under scrutiny as multiple cases were filed against the same. In this context, we will examine the recent rise in NPAs in the country, the underlying causes, steps taken so far to address the issue and critically analyse the results.

The extent and effect of the NPA problem in India.

Banks provide loans and advances to the borrowers. On the basis of performance of the loan, it can be categorized as:

        i.            a standard loan. (when the borrower makes regular repayments)

      ii.            a non-performing asset. (loans and advances where the borrower stopped making payments of interest on principal repayments for over 90 days.)

As of march 31^st, 2018, provincial estimates suggested that the total volume of gross NPAs in the economy stood at Rs. 10.35 lakh crore. About 85% of these NPAs were from public sector banks. For instance, NPAs in state bank of India were 2.23 lakh crore. In the last few years, the gross NPAs of the bank have increased from 2.3% of total loans in 2008 to 9.3% in 2017. This proves that an increasing proportion of the bank’s assets have ceased to generate income for the bank and has thus hampered its profitability and its ability to grant further credit. This resulted in the banks making higher provisions for anticipated structural losses along with several structural issues, leading to a low profitability. In the last few years, the profitability of the banks (measured by its Return on Assets, RoA) have witnessed a decline, making them vulnerable to economic shocks and consequently putting consumer deposits at a risk.

What led to the rise in NPA?

The increased occurrence of NPA was to some extent caused by external factors such as decrease in global commodity prices leading to slower exports. Some other factors are more intrinsic to the Indian banking sector.

During the mid-2000s, when the economy was booming and business outlook was very positive, a lot of the loans currently classified as NPAs originated. Large corporations have received loans for projects based on their recent growth and performance being extrapolated. With loans more easily available than before, corporations grew heavily leveraged, implying that most of the financing was through external borrowing rather than internal equity of the promoters. But as economic growth stagnated after the 2008 global financial crisis, those corporations' repayment capacity decreased. This has contributed to what is now known as the Twin Balance Sheet issue in India, where both the banking sector (which gives loans) and the corporate sector (which takes and has to repay these loans) have been placed under financial stress.

When the project for which they took loan began to under-perform, borrowers lost their ability to pay back to the bank. The banks took to the practice of 'evergreening' at this time, where some promoters were given fresh loans to enable them to pay off their interest. That effectively pushed to a later date the recognition of these loans as non-performing, but did not address the root cause of their unprofitability.

In addition, there have also been high magnitude frauds recently that have contributed to rising NPAs. While the size of fraud relative to the total volume of NPAs is relatively small, these frauds have increased and no high-profile fraudsters have been penalized.

New RBI Guidelines and Policies Adopted.

COMPREHENSIVE STEPS TAKEN BY THE CENTRAL GOVERNMENT UNDER THE ‘4R’ STRATEGY TO REDUCE THE NPAs OF PUBLIC SECTOR BANKS.

According to Reserve Bank of India (RBI) data on global operations, the aggregate gross advances of Public Sector Banks (PSBs) increased from Rs. 18,19,074 crores to Rs. 52,15,920 crores as at 31.3.2014. The primary reasons for spurt in stressed assets, as per the RBI inputs, were aggressive lending practices, in some cases wilful default / loan fraud / corruption, and economic slowdown. Asset Quality Review (AQR) initiated in 2015 for a clean and fully financed bank balance sheet revealed a high incidence of non-performing assets (NPAs). With the help of the AQR and subsequent transparent recognition by the banks, the stressed accounts were reclassified as NPAs and the expected losses on the stressed loans, not provided for earlier under the flexibility granted to the restructured loans, have been granted. In addition, all such restructuring schemes under stress loans have been withdrawn. As a result of the Government's 4R Recognition, Resolution, Recapitalisation and Reform Strategy, NPAs have since declined by Rs. 1,06,032 crores and remains at Rs. 7,89,569 crores as at 31.3.2019 (provisional data reported by RBI on 2.7.2019). and PSBs have affected record recovery of Rs. 3,16,479 crores over the last four financial years, including record recovery of Rs. 1,27,987 crores during 2018-19 (provisional data for the financial year ending March 2019, as reported by RBI on 9.7.2019)

The Government has implemented a comprehensive 4R strategy consisting of transparent recognition of NPAs, resolution and recovery of value from stressed accounts, recapitalization of PSBs, and reforms for a responsible and clean system to the PSBs and the broader financial ecosystem. Comprehensive steps have been taken under the 4R strategy to reduce PSB NPAs, including, inter-alia, the following:

1. Changes in the credit culture have been affected, with the Insolvency and Bankruptcy Code (IBC) radically changing the creditor-borrower relationship, taking control of the defaulting company away from the promoters / owners, and removing wilful defaulters from the resolution process and preventing them from raising money from the market.
2. Over the last four financial years, PSBs have been recapitalized to the extent of Rs. 3.12 lakh crore, with infusion of Rs. 2.46 lakh crore by the Government and mobilization of Rs. 0.66 lakh crore by PSBs themselves, so that the PSBs can pursue timely resolution of NPAs.
3. Key reforms have been introduced in the PSBs as part of the PSBs Reform Agenda, including the following:

a.       PSB's Board-approved loan policies now mandate the establishment of necessary clearances / approvals and linkages prior to disbursement, group balance-sheet scrutiny and cash flow ring-fencing, non-fund and tail risk assessment in project financing.

b.      The use of third-party data sources for comprehensive due diligence across data sources has been established to mitigate the risk of misappropriation and fraud.

c.       Monitoring was strictly separated from and specialized in sanctioning roles in high-value loans. Monitoring agencies have been deployed that combine financial and domain knowledge for effective monitoring loans over Rs. 250 Crores

d.      Online end-to-end one-time settlements (OTSs) platforms have been set up to ensure timely and better implementation in OTS.

 

Analysis of These Policies and Guidelines.

IS-LM framework.

The IS-LM model, which stands for "investment-savings" (IS) and "liquidity preference-money supply" (LM) is a Keynesian macroeconomic model that shows how the market for economic goods (IS) interacts with the loanable funds market (LM) or money market. The IS-LM models are affected by changes in the fiscal and monetary policies in the economy and therefore are helpful in analysing the effectiveness of these policies.

•   Effect on IS-curve: In the last few years, the RBI has reduced the Repo rates to 5.4% as on September 2019. The immediate effects of these reductions are increase in investments (because interest rates and investments are inversely related). The increase in the investment is shown by a forward movement along the IS curve, as investments are a function of interest rates. (I=I(r)).

 

•   Effect on LM-curve: The entire structure of banking is based on credit. Liberalising the credit creation by banks will increase the demand deposits. Demand deposits is an important constituent of the money supply. The increase in demand deposits will increase the money supply. The primary focus of the 4R strategy adopted by the government was on improving the credit creation in the country. As a result, there was an increase in the money supply in the liquidity market. This caused the LM curve to shift rightwards (from LM to LM’ in the figure), while IS remained constant.

Theoretically these changes in the IS-LM model will definitely bring a positive change in the total income of the economy. But practically, we may not see the result in short run because there are multiple extraneous factors acting at the same time and creating bottlenecks. But in long run due to the cheap money policy of the RBI will definitely lead to economic growth.

This can be supported by the evidence from RBI reports that banks' asset quality showed improvement with the gross non-performing assets (GNPAs) ratio declining from 11.5 per cent in March 2018 to 10.8 per cent in September 2018, a Reserve Bank of India (RBI) report said. The net NPAs ratio also saw a 5.3 per cent decline in September 2018 compared to 6.2 per cent in March 2018, RBI said in its Financial Stability Report.

Result of the 4R Strategy.

According to inputs received from Reserve Bank of India (RBI), as of 31.3.2019, there were 1,938 single borrowers with outstanding funded amount (FAO) of more than Rs. 25 crore who had defaulted on their lending. Regarding the list of such borrowers, RBI has apprised that it is prohibited for RBI to disclose credit information under the provisions of section 45E of the Reserve Bank of India Act, 1934. Section 45E provides that credit information submitted by a bank is treated as confidential and is not disclosed or published in any other way.

Financial gains from cleaning up the banking system are now amply visible, enabled by the above steps. As per RBI data on global operations, the PSB NPAs have since declined by Rs. 1,06,032 crores to Rs. 7,89,569 crores as at 31.3.2019, after reaching a peak of Rs. 8,95,601 crores as at 31.3.2018 (provisional data for the financial year ending March 2019). PSBs have recovered Rs. 3,16,479 crores over the last four financial years, including a record recovery of Rs. 1,27,987 crores during 2018-19 (provisional data for the financial year ending March 2019, as reported by RBI on 9.7.2019).

Conclusion.

Since 1991 there have been numerous far-reaching changes in the Indian Banking Sector. The Indian banks confronted the issue of NPAs more than Rs. 90,000 crores and were running under loss of benefit. The nation's common laws were excessively awkward, making it impossible to deal with the terrible credits being recouped. The banks were seen trying to lower their level of NPA in order to maintain their reliability and benefit. Debt recovery tribunals (DRTs) have been set up to recover banks and organisations' advances. Development of the various laws and strategies was a touchstone in the revision of the Indian saving money division's changes. 4 R strategy definitely helped to make the banking sector breathe easy. Since 2017 NPA has decreased due to various actions taken by RBI, I would like to conclude with a note in The Hindu article "NPA- present perfect, but future tense"

                                

 

 

 

 

 

References

 

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