Remonetisation and Banks: The Pain Pangs Stay
The remonetisation exercise had as its fulcrum the commercial banking system which was the enabler of the grand design. 50 days of hard work has gone into the process of accepting old notes from the system and disbursing currency through branches and ATMs. Further, the banks had to be compliant with over 60 regulatory changes and ensure that all the 130,000 odd branches were made cognizant of the same. The economy too has been shaken if not stirred, and the implications are still a matter of conjecture. How have banks been affected by all these developments if we transcend the operational issues?
First, banks have been flooded with deposits which could go up to around ₹ 12-14 lakh crore. The cost of these deposits gets anchored to at least 4%, if not more, depending on what proport ion of these deposits are converted into time deposits. Avenues for deployment of these funds have been limited, with credit growth witnessing a minor setback due to the non-fructification of the busy season impetus. This has meant that these deposits have moved over as investment in government securities (G-Sec)and after a turbulent phase of regulatory fine tuning, which also involved imposition of 100% incremental CRR at one point of time that was reversed, have moved towards a return of around 6% on the MSS bonds. Hence, the spread is quite low on these exogenous deposits which have come in – some have also been converted to fixed deposits at higher rates which would lower the same. The recent move to lower lending rates, which affects the entire loan portfolio, would pressurise their net interest margin further.
Second, G-Sec yields had started moving southwards before November 8, thus indicating good treasury gains. This would tend to get diluted as an increase in supply of government bonds due to the issuance of MSS bonds through the CMBs has lowered their prices with yields moving up. This would be a double whammy for banks for Q3 and Q4.
Third, operating costs which are around 2% of total assets would also tend to increase as the non-interest expenses have increased sharply in the process of remonetisation which involves taking on the ATM recalibration costs, overtime for PSB staff, transportation of notes, daily overheads in branches, security expenses, etc. While the ratio would get absorbed in the higher size of assets, in terms of absolute effect on profits, it would be significant.
Fourth, the present situation does not augur well for NPAs. There has already been an increase in the level of NPAs for personal loans, especially for education, auto and consumer durables. This would tend to increase in the rest of the year as the cash crunch has hurt employment at the lower income levels, thus impacting their repayment capacity. The same holds for SMEs which will be affected negatively due to the slowdown in the economy. Therefore, higher NPAs are bound to be the result of the economic impact these 50 days. The issue was to have gotten sorted out by March 2017, but it looks likely that it would last for a longer period of time.
Fifth, the squeeze in net interest margin combined with lower treasury gains and higher operating cost would be further pressurised by higher provisions leading to lower growth in profits. This will hold more for PSBs than private banks as they are the ones afflicted more on the NPAs. Other factors would be common for all.
Sixth, lower profits make bank stocks that much less attractive and, in turn, would force the government to prolong the period of bank capitalisation from the Budget as it will take a longer time for them to be disinvestment worthy. Hence, the government will have to consider using some of the proceeds of tax or penalty collection from Income Disclosure Schemes II and III which will be known by March.
The crux is really that the turnaround in the state of public sector banks will take a longer time to work out with most of the indicators moving below acceptable levels on account of this unique colligation of events in the last 50 days. Private banks will also not be completely isolated and though the impact would be diluted given their relatively stronger initial conditions, they will be vulnerable to market movements. On the whole, the picture may not be too bright till March 2017.