A day before Diwali, Reserve Bank of India Governor Duvvuri Subbarao signalled a ceasefire in the prolonged battle against inflation. After announcing a 25 basis point hike in the repo rate - the rate at which it lends to banks - the 13th in the past 18 months, he said he expected inflation to moderate and the guidance should encourage investment decisions. In a late evening interview in his 18th floor office, the 62-year-old governor spoke to BT's Anand Adhikari and Rajiv Bhuva on issues facing the banking industry.
Q. Bankers fear that rate spikes of the last 18 months have the potential to spoil their asset portfolios. Have you seen any signs of stress building up in the banks' asset portfolios?
If you take the aggregate indicator which is the gross non-performing assets, or NPAs, the estimate is fairly stable between June 2010 and June 2011. But that is only an aggregate indicator. I do recognise that at a time when growth is moderating and interest rates are also going up, the asset quality will come under pressure. It is quite possible that our banks will come under pressure. As much as that is something that we monitor and watch, I would think there is no cause for concern about a rapid deterioration or very bad quality of assets.
Q. There is growing concentration of risk, whether it is exposure to the power sector within infrastructure, exposure to the top 10 or 20 large companies or geographical concentration in some cases. How serious is that?
There are guidelines and provisions in the regulations to manage exposure limits both for infrastructure and geographical concentration. So banks, I'm am sure, take care of that and should there be overstepping of prudence, our supervisors will take care of that.
Q. On the retail portfolio, there is a build up in the home loan portfolio after many banks have exited the unsecured portfolio. There are reports that banks are extending the home loan tenures to 70 years of age. Are your comfortable with such long tenures?
I have heard about that, but I don't know how prevalent that is. My understanding was that loans are recovered when there is a steady stream of income. But it was discussed earlier when one of our deputy governors, K.C. Chakraborty, pointed out that towards the end of the maturity of the home loan, the security (say a flat) of a home loan actually goes up when a borrower stays longer because you have the lien over the entire property whereas the unpaid loan portion is substantially low. So as much as it should be a concern, it is not as big a concern as it is made out to be when you say the repayment period is up to 70 years of age.
Q. Is it a healthy practice?
I don't know enough to call it healthy or otherwise. I would only say that it is something we must look into as the regulator. Also, it is perhaps not as big a concern as it is made out to be.
Q. What has been the past experience of a restructured portfolio turning bad?
What I have been told is that some restructured assets do go bad and possibly the chances of restructured assets going bad is higher than those of the regular assets. That we should be expecting because restructuring comes when the asset is under pressure. But there are sufficient guidelines to make sure that the restructuring is done within limits and it is restricted to units which are illiquid and not units which are insolvent.
Q. A leading global rating agency recently pegged the gross NPAs of a leading PSU bank at 12 per cent under one of its stress testing scenarios. Do you take them seriously?
I've not heard about this. But if something like that comes to our notice, certainly our people will go behind those numbers to see how robust such an assessment is. We may not necessarily contest the rating, but we will certainly take into account their assessment.
Q. RBI also rates the banks under its CAMELS rating, which is also quite comprehensive. Does it indicate things are as bad as it is made out to be in the media?
You should be able to judge that better because people who put out those numbers or write about them should know better. When such assessments come out and they are on the fly, there is a tendency to sensationalise them and not give the complete details which make it possible to make an evaluation. Take the case of a recent downgrade, which was only for a limited component (perpetual bond issue). But it was written about as if it was an across the board downgrade. I think our analysts should give a more reasoned evaluation of the developments in the market.
Q. Another big concern is on the capital side. There is an estimate that banks will require over Rs 10,00,000 crore in the next 10 years. How does RBI view the funding needs of the banks, especially public sector banks?
There is the Basel III package. That requires seven per cent common equity and 10.5 per cent for the counter cyclical buffer. At the moment our banking system more than meets that requirement. The question is how are we going to meet that requirement going forward?
Since ours is a rapidly transforming economy, per unit of GDP will require more credit than in the past. So the credit intensity of the economy will increase. So our banks will have to raise capital to meet the growing credit needs. How much capital each bank will need to raise will depend on how we calibrate this: Is the capital adequacy ratio going to be seven per cent common equity as required under Basel-III or is it going to be one per cent higher for Indian banks, as the norm is now? For example, the Basel requirement is eight per cent today but our requirement for banks is nine per cent. Should we say seven per cent or seven plus one per cent? Should we give time till 2019 or should we accelerate? It depends on all that.
But the order and magnitude runs into hundreds of thousands of crore. I would not like to put out a precise number unless we have a more reliable estimate.
Q. There is a feeling that banks will be forced to conserve capital. What would you say?
What do you mean by conserve capital?
Q. The way stress is building into the system and the need for capital...
That is part of the banks' management. If they apprehend that their asset quality will come under pressure, they will have to manage their capital. But to a large extent provisioning norms take care of that.
Q. You have also gone on record saying that RBI should bring down the reserve requirement, especially the statutory liquidity ratio. Do you have any timeframe in mind?
There is no timeframe except that it depends on the timeframe for fiscal consolidation.
Q. India doesn't have banks of international size. There is a view that the Indian banking sector is fragmented and whatever little consolidation has happened in the past it was mainly out of impairment. Another view says we should look within as banking services are available to only 40 per cent of the people in the country. What has been your assessment?
I'm taking about the RBI view. To assess our banking system on the basis of whether we have a globally competitive bank would be inappropriate. Our largest bank, State Bank of India, is today ranked at 57th position on some parameter by one institution. Global ranking and size is important for banks which have global operations.
Our banks have a lot of work to do within the economy. They have a lot of business within the country. So the need for them to explore global business is much lower. There is a lot of financial exclusion both in terms of area and coverage.
As we spoke a little while ago, the credit demand of the economy is going to go up. So, there are business opportunities for banks within the country. The short point I'm trying to make is that we need not necessarily assess the strength of our banking system on whether we have a globally competitive bank.
On whether we should have large, medium and small banks, our own view is that we need all of them to cater to all sorts of credit demands in the economy.
Q. The guidelines for allowing foreign banks to convert from the existing branch model to a wholly-owned subsidiary are still pending. Is tax a major hurdle?
I would not say it is a hurdle, but it will be one of the issues when they shift from being a branch to a subsidiary. The other issues are we will not give them complete national treatment, and how close we can take them to national treatment.
Q. You are hinting that there won't be parity in terms of buying a domestic bank?
I'm not talking about buying a domestic bank. That is a different proposition. What I mean is in terms of branch authorisation, in terms of priority sector obligations, because foreign banks have different set of priority sector obligations. Whether their obligations and privileges would be compatible or at par with domestic banks is another issue.
Q. We have seen that many of the NBFCs eligible for a license are as big as any mid-sized bank today. They are more like a universal bank with presence in insurance, mutual fund and other financial services. Do you see a faster rollout if they get a bank licence?
It depends on NBFC to NBFC. So, their experience as NBFC will be one of the many, many criteria on which we will determine banking licences. Just because they might potentially be able to rollout faster will be one of the many, many considerations in determining their eligibility for a banking licence.
Q. Will financial inclusion be a more rigid criterion because they are already present as a financial superstore?
I won't say rigid criterion, but it certainly will be a big criterion because we have said in the discussion paper as well as the draft guidelines that the business model for financial inclusion will be one of the criteria for determining their eligibility.
Q. In the monetary policy, you have also deregulated the savings rate for deposits of over Rs 1 lakh. What is the logic of putting a Rs 1 lakh deposit criterion for uniform interest rate?
It is that low-income households (that make a deposit of Rs 10,000 or Rs 50,000) should not be priced out of this segment. Therefore, we prescribed a plain vanilla account, as you may call it, of less than Rs 1 lakh where certain minimum services (like insurance cover, etc.) have to be provided. But for deposits above one lakh we have provided for greater innovation by the banks and, therefore, greater competition both in term of prices and services.
Q. You always bat for RBI's independence. How easy or difficult it is to tread that path as a central bank governor?
It is something that we need to be sensitive about. The central bank has to be sensitive about the importance of being independent. But we also have to make a realistic assessment of that. As I have said several times, RBI is a different type of central bank. We enjoy a much wider mandate than other central banks. We do a lot of social development obligations, and in that respect our interface with the government is much broader than other central banks. Therefore, autonomy and independence has to be measured in the context of the mandate of the central bank. But I want to say that when it comes to monetary policy, the central bank has to have autonomy because that is good for the government, the system and also for the economy.
Q. Does that make the job of the governor lonelier?
That's more a matter of personality rather than your responsibility. Somebody like me is a loner by definition of personality.