Capital requirements of banks need to be re-considered in the Budget
facebooktwitter

Capital requirements of banks need to be re-considered in the Budget

 The Government is expected to address the myriad woes of PSU banks in order to take the economy on the path of recovery

  • February 17, 2016  
  • |  
Mehraboon Irani, Principal and Head (PCG), Nirmal Bang Securities

Even as expectations from the finance minister (FM) keep soaring every passing day (February 29 being the D-day), the moot question in the minds of all and sundry is - what is in store for the banking sector (read government banks), which is knee-deep in trouble?

Economic recovery is difficult (if not impossible) unless the banking system's woes are addressed. Everybody, including the FM, knows that. As of September 30, 2015, public sector banks (PSU banks), which control nearly 70 per cent of the banking system, had reported gross stressed assets of over 14 per cent of the total loans.

And, if one includes large corporate groups among defaulters, the figure could turn out to be an ugly 19-20 per cent! The stock market, in its wisdom, is valuing bankruptcy in the share price of quite a few scrips from the PSU banking space. A large majority of them are trading at less than 0.8 times their 'adjusted' book value (since the 'huge book' is itself under question).

The Reserve Bank of India, or RBI, which is the supreme authority as far as banks are concerned, seems well-focused on its objective and has announced a clean-up of the balance sheets of PSU banks. Now, it is for the government (using the Union Budget as an exercise) to make its stand clear on the capitalisation aspect and its ability to take care of such large write-offs. Capital requirements of banks the answer if all/ any of them get their due in the budgetary proposals.

RBI, which is the supreme authority as far as banks are concerned, seems well-focused on its objective and has announced a clean-up of the balance sheets of PSU banks. Now, it is for the government (using the Union Budget as an exercise) to make its stand clear on the capitalisation aspect and its ability to take care of such large write-offs.

Capital requirements of banks need to be re-considered in line with the RBI's "clean-up" instruction. Figures of Rs 25,000 crore for FY16, Rs 25,000 crore for FY17, Rs 10,000 crore for FY18 and another Rs 10,000 crore for FY19, announced so far, seem inadequate.

A larger outlay would go a long way in improving the ability of PSU banks to fund the increasing credit demand and manage the NPA cycle. While many experts have advocated the concept of "Bad Bank", in line with what a few emerging and developed markets have done over the last decade, this seems highly unlikely considering that the "NIIF" was suggested as an alternative in last year's budget (though the same is not yet operational).

A "Bad Bank" buys all bad loans, thereby cleaning up the balance sheets of banks, giving the markets confidence, thus allowing banks to raise fresh equity and kick-start the investment cycle and, hence, the economy. Instead, will the budget at least evolve the 'holding company' structure for PSU banks, thereby offering banks new avenues to raise capital? Or, will the FM announce the setting up of a sovereign fund for funding infrastructure projects?

Consolidation is another area that the FM could address in the budget. Instead of having over 30 PSU banks where capital is likely to be mis-allocated (despite the best of intentions), the FM could announce a major consolidation exercise where we could have less than 10 PSU banks with professional boards and managements, thereby making the task of managing them easier.

Of course, all these are suggestions (expectations). February 29 will provide the answer if all/ any of them get their due in the budgetary proposals.

Written by  Mehraboon Irani, Principal and Head (PCG), Nirmal Bang Securities