Fitch says note ban impact to be mixed, retains 'negative' outlook for banking sector

Fitch re-affirmed its "negative" outlook for India's banking sector, saying the financial standing remained "fragile" without bigger capital injections and that the government's action on banknotes could end up having a mixed impact.

Fitch Ratings said the government's move to remove higher-value banknotes from circulation would lead to a surge in deposits, allowing lenders to eventually lower lending rates and lower costs to service the sector's debt.

But it also noted that the overall impact on the banking sector remained uncertain, given borrowers in sectors that rely on cash could struggle to service their loans, while deposits could eventually be withdrawn again, among other factors.

Given the mixed impact, India's banking sector could remain constrained by the "under-capitalisation" of state-owned banks and weak investment demand.

The agency, which had previously estimated Indian banks would need about $90 billion in total capital by March 2019 to meet global Basel III banking rules, said 80 per cent of those capital requirements would arise in the next two financial years.

"Clearly the urgent need of the hour is capital," Fitch analyst Saswata Guha told a media conference.

The ratings agency expects additions to bad loans to slow, although high loan-loss provisions for both new and old non-performing loans would keep profits under pressure.