Mumbai, Jun 27: The gross bad debt ratio of the banking system may touch a two-decade high, with banks under prompt corrective action (PCA) expected to be the worst hit, warned the Financial Stability Report (FSR) released by the Reserve Bank of India (RBI) on Tuesday.
As bad debts balloon, the money set aside as provisions would drag down the capital position of Indian banks, with at least six banks witnessing a shortfall of capital, the inter-regulatory report warned.
Under the current macroeconomic environment, the gross non-performing asset (GNPA) ratio of scheduled commercial banks may rise to 12.2 per cent of the advances by March 2019, from 11.6 per cent in March 2018. The March 2019 level would be the highest since the financial year ended 2000, according to Bloomberg.
The system level capital to risk-weighted assets ratio may come down from 13.5 per cent to 12.8 per cent during the period.
The scenario is part of the macro-stress tests and represents the baseline scenario. If the macroeconomic situation worsens, the GNPA ratio would worsen too.
Despite that, India’s financial system remained stable, the report said.
The banks undergoing the RBI’s restrictive PCA framework would be worse off. The GNPA ratio of these banks is expected to rise to 22.3 per cent of the advances, from 21.0 per cent in the period under consideration.
“However, the capital augmentation plan announced by the government will go a long way in addressing potential capital shortfall, as also play a catalytic role in credit growth at healthier banks. In parallel, the PCA framework, by addressing the vulnerabilities of weaker banks, will help in improving the health of the banking sector,” the report said.
The thrust of the PCA framework is to prevent further capital erosion and nurse the banks back to health.
“Furthermore, if undertaken promptly and well, governance reforms would not only improve the financial performance of the banking sector but also help reduce operational risks.”
Sectors causing stress
Between September 2017 and March 2018, the GNPA ratio in the industry sector rose from 19.4 per cent to 22.8 per cent, whereas the stressed advances ratio increased from 23.9 per cent to 24.8 per cent.
“Within industry, the stressed advances ratio of sub-sectors such as ‘gems and jewellery’, ‘infrastructure’, ‘paper and paper products’, ‘cement and cement products’, and ‘engineering’ registered increase in March 2018 from their levels in September 2017.”
The asset quality of ‘food processing’ and ‘textiles’ improved in the period. The provision coverage ratio rose across all bank groups, with the foreign banks having the highest provision coverage ratio (88.7 per cent) followed by private banks (51.0 per cent) and then public sector banks (PSBs), according to the report.
A recovering economy
While interconnectedness in the interbank market has increased marginally, analysis reveals that the size of the interbank market itself has shrunk.
“Contagion analysis of the banking network indicates that if the bank with the maximum capacity to cause contagion losses fails, it will cause a solvency loss of 9.0 per cent of the tier-I capital of the banking system,” according to the FSR.
In his foreword to the report, RBI Deputy Governor Viral Acharya said domestically, “the economy appears to be gathering strength although global commodity price swings and turbulent capital flows are a reminder to our fast-growing economy that there can be little scope for complacence.”