Story Of The Week


No one is unaware of the financial stress in the Indian Banking system. The Non-Performing assets, NPA’s, have been a grave concern for Indian economy. Banks are channels for maintaining the investment-saving cycles i.e. it helps in matching the supply of savers with demand from lenders. For economic growth, investment is crucial and for investment a healthy credit system must be in place to raise debt for development. Unhealthy banking system is detrimental to the Indian economic growth.

The gross NPA’s of Public Sector Bank rose to Rs 6.3 lakh crore as against Rs 5.5 lakh crore at the end of the June quarter. This works out to an increase of Rs 79,977 crore on a quarterly basis. Now that is really a big number! The cumulative NPA of the banking sector stood at ₹6.5 trillion, equals, 8.6 per cent of loans, at the end of June 2016. Further adding a 3.5 per cent of restructured loans, 4.5 per cent of loans which aren’t still recognized as NPA, and including stressed assets, the number jumps to 20 per cent of loans, according to a Credit Suisse research report.

This issue has gained popularity in almost every corner. Be it the Central bank or Indian govt. or the international agency like IMF, every statuary body has realized the gravity of the problem. Over these years, Reserve Bank of India (RBI) has introduced multiple schemes to tackle the challenge from the NPA like:

  • Flexible Refinancing of Infrastructure (5/25 scheme)
  • Asset Reconstruction (ARC)
  • Strategic Debt Restructuring (SDR)
  • Asset Quality Review (AQR)
  • Sustainable Structuring of Stressed Assets (S4A).

But none of the schemes have been able to take out the major chunk of the bad loans.

Recently a new school of thought has given a new ray of hope in the sinking ship of Indian Banks. The new name in the town is “Bad Bank- a bank which literally proposes to takes of the bad loans from the balance sheets of banks.” The Bad Bank, aims to take charge of the biggest, most difficult cases, of non-performing assets (NPAs) in the banking system. Similar concept was executed at the Pittsburgh-headquartered Mellon Bank in 1988 in response to its real-estate portfolio problem. According to McKinsey & Co, the concept of a “bad bank” had been applied in previous banking crises in Sweden, France, and Germany. 

To address the twin balance sheet problems i.e. corporate debt and bad loans the Economic Survey had proposed a Public Asset Rehabilitation Agency (PARA). It aims to build a state backed/owned Asset Reconstruction Company and since its inception it has been a baffling question! With delegates like, NITI Aayog Vice-Chairman Arvind Panagariya saying it will be a difficult proposition and a private asset reconstruction company could do a better job. On the contrary Chief Economic Advisor Arvind Subramanian saying that the idea of setting up a state-owned asset reconstruction company (ARC) or bad bank to deal with mounting NPAs is gaining traction and it needed to be created quickly. 

The main purpose of the Bad Bank is meet the objective of de-risking public sector banks (PSBs) and making them more attractive to investors for raising funds, which basically translates to capitalization. Secondly, to focus on NPAs and stressed assets alone so that PSBs can focus on credit growth. Let’s understand if Bad Banks can help solve the problem of Indian Banking Sector.

Why Bad Bank will do better than private ARC?

  • A single government entity will be more competent to take decisions rather than 28 individual PSBs.
  • Capacity building for a complex workout can be better handled by the government which has regulatory control and has management skillsets in public sector enterprises.
  • Foreign investors with both risk capital and risk appetite would be more in a government- led initiative, knowing that regulatory risks would stand considerably mitigated in various stages of resolution, including take outs.

Why Bad Bank could be a far stretched reality?

  • At what scale the Bad Bank will work? Is it planning for a mass cleaning up NPA or just a selected few? In the former case, the question which lies ahead is, from where will the Bad Bank find fund to purchase the loans? Obviously, govt. can’t buy all the NPA’s from the PSU’s even at the 50% discount. That will still amount to around 77,000 cr. So, the only option that could be availed is to involve the Private sector. If this is the case, then what differentiates it from the traditional Asset Reconstruction Company?
  • Pricing, is another big hurdle in the execution of the scheme. What will be the haircut that the banks will be able to take? How will the NPAs will be priced?
  • This also poses a threat on govt. where the onus to recover the amount falls on the govt. alone. So, in order to executive such scheme, risk sharing model which involves all stakeholders is crucial.


End Note

Resolution of bad loans and restoring the health of Indian Banking Sector is among the biggest challenge the Indian economy faces today. It’s a challenge that requires a response on multiple fronts and intellectual debates and discussion. It also requires a strategy team as well as the great execution team. To count on solving the problem on sole runner is not a best of things to do. Bad Bank can’t be the answer to all our issues, because setting up a bad bank itself is a very complex process. What is required is greater autonomy to banks in the decision-making process by setting up qualified stressed asset management teams, with targets and incentives, reporting to a central regulatory authority.



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