Survey calls for fresh asset quality review

Pandemic concessions to banks need a quick end

The Economic Survey 2021 has called for a fresh review of asset quality of banks once the Covid-19related regulatory forbearances are withdrawn.

“The regulatory forbearance must be removed as the economy improves and must quickly be followed up by a clean-up exercise of bank books,” chief economic adviser Krishnamurthy Subramanian said in the Economic Survey for

2020-21, tabled in Parliament on Friday.

Forbearance represents emergency medicine that should be discontinued at the first opportunity when the economy exhibits recovery, the survey stated.

In the past, banks exploited the forbearance window for window-dressing their books and misallocated credit, thereby damaging the quality of investment in the economy.

Citing the example of the global financial crisis of 2008, it said that the forbearance which was announced by the RBI helped borrowers tide over temporary hardships. But continuance of this even after economic recovery led to unintended consequence in the form of banks window dressing their books and misallocating credit. This in turn damaged the quality of investment in the economy as borrowers who benefitted from the forbearance invested in unviable projects.

The prolonged forbearance following the global financial crisis engendered the recent banking crisis and therefore an important lesson for policy makers is to not extend such emergency measures after recovery. In order to get a clearer picture of the banking system asset quality, an asset quality review needs to be conducted. The legal infrastructure for the recovery of loans needs to be strengthened it said.

Giving examples, the report said the recent events at Yes Bank and Lakshmi Vilas Bank corroborate that the asset quality review did not capture evergreening of loans carried out in ways other than formal restructuring. “Had the review detected evergreening, the increase in reported NPAs should have been in the initial years of the exercise.”

Gross non-performing assets ratio of scheduled commercial banks has decreased from 8.21 per cent at end-March 2020 to 7.49 per cent at endSeptember 2020. The recent Financial Stability Report of the Reserve Bank has indicated that banks' gross non-performing assets may rise to 13.5 per cent by September 2021.