Indian banks have a lending problem and nobody is refuting that anymore. What remains up in the air, however, is the solution to the same. Debt worth Rs four lakh crore is already classified as non-performing assets and it is giving sleepless nights to those at the helm of the Reserve Bank of India as well as the Indian government.
The bad debt problem is so huge that the total amount of unrecoverable loans is more than India’s spending on defence, education, health and roads combined. The government has decided to infuse Rs 22,915 crore into the system to ease the strain but that’s unlikely to help much, given the extent of the problem.
While it would be prudent for banks now to lend more cautiously going forward even as some have already started pulling their purse strings, the ministry of finance has a somewhat different advice: lend to more people.
Addressing the chief executives of the public sector banks in a note, the ministry warned against the lax recovery of bad loans and said that the efforts have not matched the growth of NPAs.
“The recovery efforts have not matched the exponential growth of gross NPAs. Even within recovery, most of it is coming through write-offs whose percentage is increasing every year,” the ministry stated in the note according to the Indian Express.
The ministry said that all public sector banks recovered Rs 1.28 lakh crore in the last financial year as compared to Rs 1.27 lakh crore recovered in the year before that. Cautioning against overburdening their balance sheets, the finance ministry told banks that they should try to increase their incomes as administration and operating expenses continue to rise.
The way to do that, according to the ministry of finance, would be to lend more but at the same time increase the quality of credit. The quality of credit is measured by the borrower’s ability to pay back and risks associated with lending.
“This is important… banks must make efforts to increase credit to lead income generation without concentration risks i.e. risk should be spread over various sectors and segments,” the note said.
The ministry’s logic makes sense as interest on advances or loans is one of the major contributors to a bank’s income and recently announced quarterly results of many big banks show that their balance sheets are more than just temporarily stained by bad loans.
However, it is not going to be easy to lend massively when banks are starved for funds.
A recent report produced by credit rating agency India Ratings which said that banks have already started “rationing credit” in the light of bad loans.
“Banks have been rationing credit due to their capital constraints, higher non-performing assets and challenges of the post-default recoveries,” the study said.
The main reason behind the industry facing a fund crunch is that a large portion of unrecoverable loans have been given to a handful of companies, India Ratings said. For instance, the top 500 companies account for almost one-third of all outstanding loans. If these companies fail to pay back, the banks will be forced to further tighten their purse strings.
The Finance Ministry proposal in this light seems to be aimed at making sure that the credit flow to the industrial growth doesn’t come to a halt. However, the ministry has made it clear that apart from recovering loans, banks have to assess borrowers better and spread their risks.
This is something that even the outgoing RBI Governor Raghuram Rajan has called for. During a public lecture in 2014, Rajan warned against painting all borrowers with a broad brush and called for more due diligence by the banks before lending.
“Freeloaders” or borrowers who fail to repay loans on the back of “riskless capitalism” prompted by lax recovery follow ups should be justly chastised but small borrowers shouldn’t get hurt in the process, Rajan had said.
“What we need is a more balanced system, one that forces the large borrower to share more pain, while being a little more friendly to the small borrower,” he had said. “The system should shut down businesses that have no hope of creating value, while reviving and preserving those that can add value."
Even as banks try to walk the balancing act of lending more but with more caution than before, they could learn a thing or two from the credit card industry. India’s credit card outstanding debt hit an all time high of Rs 42,000 crore in May 2016 but lenders aren’t worried.
Analysts say that the reason why credit card issuing banks will remain unscathed is because of tightened norms in lending as a result of which fewer banks are now willing to provide multiple credit cards to the same person.
“Credit bureaus strengthening have made lenders cautious and conservative unlike in the past,” Vijay Jasuja, Chief Executive Officer of State Bank of India’s credit card division, told the Hindustan Times. “There is also fear of spoiling the credit history as people will need more loans in future. Third factor is that the talented youngsters are entering into high-paying jobs, which is leading to more spends by card.”