Swift economic recovery key to limit loan losses for Indian banks: Fitch

Lenders face a tough operating environment in the near term, with a spike in stressed loans and write-offs due to the economic fallout of the coronavirus pandemic

Swift economic recovery will be critical in limiting loan losses for Indian banks in what is likely to be a protracted period of weakness in the asset-quality cycle, says Fitch Ratings.

Indian lenders face a tough operating environment in the near term, as stressed loans and write-offs increase as a result of the economic fallout of the coronavirus pandemic.

In September, Fitch revised India’s (BBB-/Negative) growth forecast for the year ending March 2021 (FY21) to -10.5 per cent, from five per cent. This revision partly reflected the 23.9 per cent (year-on-year) decline in real Gross Domestic Product (GDP) in April-June 2020 period (Q1FY21) associated with the impact of the pandemic.

The agency expects growth to rebound to 11 per cent in FY22, but there are downside risks. Limited room for fiscal support, fragilities in the financial system and a continued rise in Covid-19 cases are hampering a normalisation in activity. Fitch does not expect GDP to return to pre-pandemic levels until 1Q22.

Lenders have been permitted by the Reserve Bank of India (RBI) to undertake a one-time restructuring exercise of loans affected by the pandemic, which will provide relief in terms of bad loan recognition and provisioning. However, the exercise could leave the sector saddled with a high bad-loan burden over the next few years if restructured loans do not perform according to agreed milestones.

Central bank data shows that Indian banks wrote off nearly $ 85 billion over FY14-FY19, of which state-owned banks contributed nearly 80 per cent. The economic stress this time around is set to be deeper and more broad-based, which could make restructuring more challenging, it said.  

Execution risk remains high, notwithstanding the safeguards built in by RBI in terms of tighter timelines, penal provisioning and more monitoring by the expert committee of loans beyond Rs 1,500 crore.

However, timelines are short, since banks need to identify and agree upon a resolution plan by December 2020, including small retail loans and loans to micro enterprises and SMEs which will sit outside the committee’s purview. The authorities expect banks to implement resolution plans by June 2021.

The relatively short timeline will add to implementation difficulties, particularly given that bankruptcy courts are not admitting fresh cases until December - a deadline that we believe will be further extended.

Indian banks have a chequered record on the recovery and resolution of stressed loans, which reinforces our conservative expectations about the process, it added.