Scare the Liv­ing Day­lights

Mar­ket-led so­lu­tions, not co­er­cion, must be the cure for our bad-debt headache

The Economic Times - - The Edit Page Ict Trade - Ab­heek Bar­man

On Mon­day, Fe­bru­ary 20, the heads of 10 top pub­lic sec­tor banks (PSBs), led by Arund­hati Bhat­tacharya, chief of In­dia’s largest lender, State Bank of In­dia (SBI), met fi­nance min­is­ter Arun Jait­ley. The of­fi­cial rea­son for this meet­ing, or­gan­ised by the In­dian Banks’ As­so­ci­a­tion, was to talk about the pile of bad debt on banks’ books, and how to lower the level of these so-called ‘non-per­form­ing as­sets’ (NPAs). This is, in­deed, a huge, dark cloud over In­dia’s fi­nan­cial sys­tem and the en­tire economy.

Es­ti­mates say by end-De­cem­ber 2016, bad loans were 12.5% of to­tal lend­ing in the sys­tem. To see how ap­palling this num­ber is, it makes sense to com­pare it with the same num­ber for China. China’s break­neck, 40-year growth race is slow­ing, and as it does, bad loans have grown. In May last year, China re­ported that these have climbed to 1.75% of to­tal lend­ing.

Hounds Shouldn’t Dog

Chi­nese au­thor­i­ties are wor­ried about a less than 2% level of toxic debt. Our bankers, reg­u­la­tors and gov­ern­ment have ev­ery right to be alarmed. But on Tues­day, this news­pa­per re­ported that there was an­other, equally scary sub­text to the dis­cus­sion. This was the threat of ha­rass­ment of bank of­fi­cers and man­age­ment by in­come tax, en­force­ment, the Cen­tral Bureau of In­ves­ti­ga­tion (CBI) and other sleu- ths, for loans made in the past that have sub­se­quently soured.

This is not para­noia. In Jan­uary, the CBI ar­rested a for­mer chair­man of IDBI Bank, Yo­gesh Ag­gar­wal, and three other of­fi­cers. The CBI wanted to know why they had lent .₹ 950 crore to Vijay Mallya’s now-de­funct King­fisher Air­lines.

This ar­rest sent shock waves through bank­ing cir­cles. It has also led to a near-paral­y­sis in lend­ing for new projects. No banker now wants to stick her neck out lend­ing to projects that look good on pa­per, but that could run aground in fu­ture due to some glitch that can’t be an­tic­i­pated to­day.

Thi­sisahugeprob­lem,which­stock mar­ketsseem­to­have­blithe­lyig­nored. On the same day the bank chiefs met Jait­ley, bro­ker­age Credit Suisse pub­lished a note on banks, which pointed out the dis­con­nect be­tween the real health of PSBs and the froth gen­er­ated around their stocks by funds that ought to know bet­ter.

It looked at a large num­ber of sec­tors, rep­re­sented by the 500 companies in the BSE 500 in­dex. Credit Suisse found that over the last 12 months, PSB stocks had jumped an as­ton­ish­ing 76%. It is the sec­ond-fastest grow­ing sec­toral stock, just be­hind met­als, which grew 98%, and was far ahead of the BSE 500 over­all growth of 30% over 12 months.

Do these bulls know some­thing about state-owned banks that the rest of us are miss­ing? The folks at Credit Suisse clearly think oth­er­wise. Their pa­per lists a num­ber of things that should be ap­par­ent to any bank an­a­lyst.

One, for the last six years, the net in­ter­est mar­gin — roughly, the gap be­tween lend­ing and de­posit rates — has been nar­row­ing for all banks.

This mar­gin, es­sen­tially de­not­ing how prof­itable banks are, has fallen from 2.8% in 2011 to 2.6% now. It mig- ht not look like much. But in the cut­throat world of re­tail bank­ing, it’s a sharp fall, and it’s headed con­sis­tently south for six years.

Two, pri­vate banks have fared far bet­ter than state-owned ones in the same pe­riod. In these six years, their mar­gins have ac­tu­ally grown from 3.1% to 3.4%. Mean­while, state-owned banks’ mar­gins have col­lapsed — from 3.2% to 2.2%.

Pop Goes the Rea­son

Given these num­bers, I’m scratch­ing my head try­ing to fig­ure out the rea­sons for the bull run in state-owned bank stocks. It looks dan­ger­ously like a bub­ble and we know what hap­pens when those things go pop.

In the panic af­ter the ar­rest of Ag­gar­wal and his for­mer col­leagues, lend­ing froze up. In­deed, at 5% till De­cem­ber 2016, the growth of lend­ing by banks is at a multi-decade low. It is way off its De­cem­ber 2004 peak of 35%plus, in the af­ter­math of the vic­tory of the first UPA regime.

The real fall­out of hound­ing banks will be on the economy as a whole. State-owned banks are In­dia’s largest lenders to busi­nesses of all sizes. With­out their fi­nance, most new in­vest­ments and projects will grind to a halt. Re­mem­ber, for ev­ery ru­pee in­vestors bring in as equity, they raise .₹ 3 as loans. With loan growth crawl­ing at 5%, and bankers in panic, growth will be hit.

De­mon­eti­sa­tion, an­nounced by Prime Min­is­ter Naren­dra Modi on the evening of Novem­ber 8, has been a blow. Cash-strapped medium and small firms can­not pay back dues. Banks have been too busy col­lect­ing old notes and re­plac­ing them with new to per­form their usual func­tion of col­lect­ing de­posits and lend­ing them on.

In­stead of send­ing sleuths to hound lenders, the gov­ern­ment must give the lat­ter con­fi­dence to re­sume their nor­mal ac­tiv­ity.

Liq­uid­ity must re­turn to the sys­tem. If loans go bad, banks should in­voke the new bank­ruptcy code, quickly seize com­pany as­sets and sell these to as­set re­con­struc­tion companies, which can then auc­tion these to the high­est bid­der. Mar­ket-led so­lu­tions, not co­er­cion, must be the cure for our bad-debt headache.

Clarice, why had your banker fa­ther lent so much to a busi­ness that later went bust?

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