The culprit for RBI not easing interest rates is the critical condition of public sector banks owing to high stressed funds due to non-repayment by large debtors. Just 50 companies account for 71 per cent of the total debt
The Reserve Bank of India’s change in monetary stance has been termed hawkish, shocking the stock market and pounding the banks stocks heavily. The industry was expecting an interest cut to come out of the difficult situation of non-payment of their large debts. The central bank says it has already reduced 1.75 per cent repo rate but the banks have passed only 0.75 per cent to 0.9 per cent.
The RBI says that shift to a neutral stance and a hold on rates were called for to assess how the transitory effects of demonetisation played on output gap. The statement is extremely modest as the central bank knows that the situation is lot worse. The currency note ban is virtually not the devil and possibly it is also not the black money.
The culprit is the critical condition of public sector banks owing to high stressed funds due to non-repayment by large debtors. Just 50 companies account for 71 per cent of the debt. It is affecting investments in the private sector.
A survey quoting Credit Suisse data says that the top 10 stressed corporate groups owe Rs7.52 lakh crore in 2016. It was Rs45,400 crore in 2006. Total non-performing assets are estimated at about Rs12 lakh crore, part of which has been restructured — repayment officially delayed.
At least 13 of the public sector banks, says the Economic Survey of India 2016-17 (ES), accounting for approximately 40 per cent of total loans are severely stressed. The ES says the situation is worsening as the stress on corporate and banks are continuing to intensify. This in turn is taking a miserable toll on investment and credit. The picture, the survey portrays, is grave. The recovery process is complicated and time consuming. The ES notes, “The underlying debt problem has to be addressed lest it derails India’s growth trajectory.”
That is a pointer to a severe crisis the economy is heading for. The banks in February 2016 revealed their NPAs had soared to such extent that provisioning had overwhelmed operating earnings. As a result, net income had plunged deeply into red. It led to crash of their shares to such low levels that at one point the medium-sized private sector bank, HDFC, was valued as much as 24 public sector banks together.
The RBI’s prescription of asset quality review (AQR) — cleaning up bank books - did not work. As 2016 proceeded NPAs soared to nine per cent of total advances by September — double their level a year ago. More than four-fifths of the NPAs were in state-owned banks and it had reached 12 per cent.
The ES attributes it to “twin balance-sheet (TBS) problem”, where both the banking and corporate sectors were under one of the highest degrees of stress in the world. “At its current level, India’s NPA is higher than any other major emerging market, except Russia, higher even than the peak levels seen in Korea during the East Asian Crisis in 2000. (Korea had 8.9 per cent NPA).”
Credit Suisse reported that 40 per cent of Indian corporate debt it monitored was owed by companies, which had interest rate coverage ratio less than one. It means they did not earn enough to pay the interest obligations on their loans.
In countries with TBS, corporations over-expand during a boom, leaving them with obligations that they cannot repay. This proves devastating for growth, says the ES, as neither stressed companies can invest nor the sound ones as fragile banks are not in a position to lend them. The crisis started with India’s attaining high growth between 2004-05 to 2008-09 as amount of non-food credit doubled both from banks and large inflows from overseas. Foreign inflows or external borrowings reached nine per cent of the GDP.
But as companies were taking on more risk, global financial crisis or lehman Brothers meltdown happened. Costs soared and rupee tumbled forcing them to repay their debts at exchange rates closer to Rs60-70, while firms had borrowed when rupee was Rs40 to a dollar.
Higher costs, lower revenues, greater financing costs squeezed corporate cash flow, quickly leading to debt servicing problems.
Unlike in the US and Europe, TBS did not lead to economic stagnation in India. Strong domestic demand maintained growth despite very weak exports and moderate to high inflation. Despite supply constraints and fall in manufacturing, trade and transport; new power plants, new roads, airports, and ports ‘helped’ India grow. But most infrastructure investments did not prove financially viable.
In other countries, creditors in such situation would have triggered bankruptcies. Instead, India, the ES notes, the strategy was to allow more time to corporate wounds to heal. Companies sought principal payments to be postponed so that they could become viable. Accordingly, banks restructured loans by 2014-15 and extended fresh funding to stressed firms.
“As a result, total stressed assets far exceeded the headline figure on NPAs. To that amount one need to add the restructured loans and other bad assets.”
Market analysts estimate that unrecognised debts are four per cent of gross loans and perhaps five per cent of public sector banks. The ES says, “Total stressed assets (actual NPA) would amount to about 16.6 per cent of bank loans and nearly 20 per cent of loans at State banks.” The model is similar to that of China. Both India and China spurred growth with liberal bank loans.
The ES, however, questions its sustainability. Indian large companies saw earning diminishing to Rs20,000 crore per company per quarter at end of 2015, from Rs25,000 crore in early 2015; and by September 2016, to Rs15,000 crore per quarter. It means aggregate cash flow has reduced by 40 per cent in less than two years. It has severely hit their repayment capability.
(The writer is a senior journalist)