Financial stability report by the Reserve Bank of India (RBI) says that macro stress tests for credit risk in the banking sector indicate that the gross non performing assets (NPAs) may increase from current 8.5 per cent in March 2020 to 12.5 per cent by March 2021 under the baseline scenario. It, however, adds that "if the macroeconomic environment worsens further, the ratio may escalate to 14.7 per cent under very severe stress."
The NPA situation is once again expected to worsen which came under control during the pre-Covid period. The previous NPA cycle started from 2014 onwards when the RBI initiated an asset quality review of the banking sector. Currently, close to 40 per cent of the Rs 100 lakh crore outstanding loan book of the banks is under a six-month moratorium which is ending in August. The business disruption post the Covid lockdown is creating a fresh set of stress for the banking sector.
The credit growth of scheduled commercial banks, which had considerably weakened during the first half of 2019-20, slid down further to 5.9 per cent by March 2020 and remained muted up to early June 2020.
"This moderation was broad-based across all bank groups," states the report. In fact, the slowdown in the economy and the risk aversion of banks had already impacted the credit growth in the industry.
The RBI Governor has recently advised that "building buffers and raising capital" will be very crucial not only to ensure credit flow but also to build resilience in the financial system. The banks will need capital to absorb the NPA provisioning pressure because of the high NPAs.
The RBI had already advised banks and NBFCs to undertake Covid stress test to analyse the balance sheet impact in areas like liquidity, asset quality, profitability and capital adequacy for the year 2020-21 and 2021-22. Many banks have already done the stress testing.
"They have been advised to work out possible mitigating measures including capital planning, capital raising and contingency liquidity planning." In fact, many private banks have either raised or are planning to raise the capital. The public sector banks, however, are waiting for the government to recapitalise them.