Govt's mega bank overhaul may hurt NPA clean-up, fight against growth slump

India’s biggest bank overhaul in decades may hurt the nation’s bad loan clean-up and slow the lending approvals needed to reverse its economic slump. 

Prime Minister Narendra Modi’s government late Friday surprised observers by announcing several state bank mergers, a move it said would create larger, healthier lenders. While that may be true in the long-term, analysts predict that the efforts may be hurt by a near-term shift in management attention to aligning resources such as personnel, technology and branch networks.

“Recent precedence shows the amalgamation process takes up to six months and management bandwidth of the merging banks may get occupied," said Anil Gupta, who oversees financial sector ratings at ICRA Ltd, the local unit of Moody’s Investors Service. “The amalgamation will require harmonisation of asset quality and provisioning levels among the merging banks, and may spike up the credit provisions this year."

The merged lenders, which control more than half the assets held by Indian banks, will get Rs 552.5 billion ($7.7 billion) of capital to jumpstart the process. Still, that may not be enough to keep money flowing into the economy given India continues its struggle to contain the world’s worst pile of stressed loans despite $37 billion of handouts over three years.

Another risk is that credit growth again plummets as it did in 2016, when a shock cash ban by Modi made bankers responsible for exchanging old bills for new, leaving them no time to dispense loans. Such a slowdown would further damage an economy already growing at the slowest pace in six years.

Business may also be disrupted by strikes threatened by the banks’ employee unions, who fear that the consolidation will result in fewer branches and job opportunities.

“All nine bank unions will meet on September 11 in Delhi and decide a timeline of protests against the mergers, including agitation and prolonged strikes,” CH Venkatachalam, general secretary of the All India Bank Employees’ Association, the largest union covering 400,000 staff, said by phone. The government’s announcement is “diverting attention from the economic slowdown to the merger of banks," he said.

Finance Minister Nirmala Sitharaman sprang the merger announcement just minutes before official data confirmed a fifth straight quarter of slowing economic growth, with expansion coming in at a much-weaker-than-expected 5%. Under the hood, the numbers offer more cause for concern on whether output – once adjusted for inflation -- will increase fast enough to ensure borrowers cover their interest payments.

Any more debt repayment delays or defaults risk reversing an expected recovery in India’s gross bad loan ratio and worsen a widening shadow bank crisis. 

The government decided to go ahead with the mergers now because the banks are almost adequately capitalised, there will be no disruption to business, and no bank employee will be hurt by the process, Finance Secretary Rajiv Kumar said in an interview.

“The idea is that supply side needs to be put in place whenever the sectoral stresses are over and demand picks up," he said, citing a roadmap offered by the earlier merger of Bank of Baroda with Dena Bank and Vijaya Bank.

That combination didn’t significantly reduce bad loans, leading to investors continuing to sell Bank of Baroda shares, said Abhimanyu Sofat, head of research at IIFL Securities Ltd. The lender has lost 31% of its market value since the merger was first announced about a year ago, compared with a 1.1% gain in the S&P BSE Bankex index.

Mona Khetan, an analyst at Reliance Securities Ltd, says the latest planned mergers will help the banks scale up but issues including personnel and non-performing debt could impact interim profitability.

“It is likely that management attention and bandwidth of the entities being merged could get split, impacting loan growth,” said Prakash Agarwal, who heads the financial institutions group at India Ratings and Research, the local unit of Fitch Ratings. ‘The current mergers may face more friction than the last one.”