Past ex­cesses come back to haunt In­dian banks

The Pak Banker - - OPINION - Ira Dugal

BANKS are once again un­der spot­light. Not the kind of spot­light you would see at an awards cer­e­mony. More likely the kind you would see in an in­ter­ro­ga­tion room per­haps. This is true not just in In­dia, where banks have re­ported a sharp de­te­ri­o­ra­tion in earn­ings, but also glob­ally, where the sta­bil­ity of large global banks is again be­ing scru­ti­nised. Dif­fer­ent is­sues be­siege banks in dif­fer­ent ge­ogra­phies rang­ing from In­dia to Europe, but deal­ing with past ex­cesses ap­pears to be the com­mon thread. Let's look at what is hap­pen­ing here in In­dia. A few weeks back, this col­umn ar­gued that it's time for banks to come clean and stop dis­guis­ing stressed as­sets. That is now the clear mes­sage from the Re­serve Bank of In­dia (RBI) and banks need to toe the line. Well, that process has now started and the out­come is not look­ing pretty. Un­til mid-day on Thurs­day, 11 Fe­bru­ary, 26 of the 39 listed banks had re­ported earn­ings. For this set of banks, the gross non­per­form­ing as­sets (NPAs) have jumped 27% be­tween the Septem­ber- and De­cem­ber-ended quar­ters toRs.2.72 tril­lion from Rs.1.90 tril­lion. Pro­vi­sions have surged more than 72% quar­ter-on­quar­ter (q-o-q) for this set. (Note: A q-o-q com­par­i­son is more rel­e­vant in this case be­cause it tells you the ex­tent to which bad loans were un­der-re­ported and the in­ad­e­quacy of pro­vi­sion­ing. Both are now get­ting cor­rected fol­low­ing the RBI's as­set qual­ity re­view.)

While the ag­gre­gate jump in bad loans is wor­ry­ing enough, some of the mid-sized banks have re­ported real howlers. The coun­try's largest len­der, State Bank of In­dia (SBI), re­ported a 28% in­crease in gross bad loans be­tween the third and fourth quar­ters and an 82% uptick in pro­vi­sions. Prof­its fell 62%. Arundhati Bhat­tacharya, chair­per­son of SBI, warned that a fur­ther hit may need to be taken in the fourth quar­ter. How­ever, Cen­tral Bank of In­dia, Dena Bank, Al­la­habad Bank and In­dian Over­seas Bank, have all re­ported large losses as the in­crease in pro­vi­sions com­pletely wiped out prof­its. Pun­jab Na­tional Bank (PNB) man­aged to re­port a small profit be­cause of tax write-backs. If not for that, it, too, would have re­ported a loss. Among pri­vate sec­tor banks, the big shock came from In­dia's largest pri­vate sec­tor len­der, ICICI Bank Ltd. It re­ported a 33% in­crease in gross NPAs be­tween the Septem­ber and De­cem­ber quar­ters. Its gross NPAs, as a per­cent­age of to­tal loans, is at 4.72%. What is wor­ry­ing is that not all banks have taken the en­tire hit from RBI's as­set qual­ity re­view in the third quar­ter, which means there will be more pain in the fourth quar­ter earn­ings.

In­vestors are wor­ried about what is to come and have beaten down bank stocks mer­ci­lessly. But along with look­ing ahead, it is worth look­ing in the rear view mir­ror to re­mem­ber what got us to this point and ap­por­tion blame ap­pro­pri­ately. There are three pri­mary ex­cesses that have led us to this pass. First, banks in In­dia, like else­where, had lent ex­ces­sively to com­mod­ity driven sec­tors for­get­ting that com­modi­ties are sus­cep­ti­ble to wild swings. In this case, while bankers must be faulted for not ex­er­cis­ing due pru­dence in lend­ing to volatile sec­tors and highly lever­aged com­pa­nies, you can prob­a­bly of­fer them some sym­pa­thy. The lend­ing hap­pened when the com­mod­ity su­per cy­cle was on an up­swing and the fierce­ness with which it re­versed caught ev­ery­one by sur­prise. Se­cond, banks went over­board on lend­ing to the in­fra­struc­ture sec­tor in sup­port of the at­tempt made by past gov­ern­ments to push in­fra­struc­ture growth in In­dia.

In the ab­sence of a strong cor­po­rate bond mar­ket, banks were fund­ing projects they had no real ca­pac­ity to fund and also tak­ing on risks that they didn't re­ally un­der­stand. Here the blame must be split down the middle be­tween gov­ern­ments rush­ing the process and bankers yield­ing to that pres­sure. Ac­cord­ing to RBI's De­cem­ber fi­nan­cial sta­bil­ity re­port, five sec­tors-min­ing, iron and steel, tex­tiles, in­fra­struc­ture and avi­a­tion, con­sti­tuted 53% of the to­tal stressed ad­vances across sec­tors. Third, and most dam­ag­ingly, banks con­tin­ued to lend to pro­mot­ers and en­ti­ties that were al­ready highly lever­aged and even some who did not have a good track record of re­pay­ment. Crony bank­ing is the only way to de­scribe this. Here, banks must take 100% of the blame. Ac­cord­ing to a July 2015 re­port from UBS, loan ap­provals to po­ten­tially stressed com­pa­nies have risen 85% since 2011-12 as banks con­tin­ued to lend to such bor­row­ers de­spite de­te­ri­o­rat­ing cash flows and in­creased debt on their bal­ance sheets. Bankers must bear the cross for this and they are.

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