More industrial demand, lower interest rates can improve banks' asset quality: S&P

Standard and Poor's (S&P) on Wednesday said pickup in industrial demand, deleveraging of corporate balance sheets and pass-through of lower interest rates are must to improve asset quality of banks.

India's economic risk trend, which affected the banking sector, was negative. Improvement in policymaking had raised the prospects of a stronger economic and fiscal performance. But a material improvement in the asset quality of banks would be needed to resolve problems in stressed sectors, especially infrastructure, metal and mining.

Economic risks in India could increase in the absence of such steps and lead to a continuous increase in stressed assets for the banking sector, S&P said in its report, Banking Industry Country Risk Assessment: India, released on Wednesday.

The agency said risks from economic imbalances were expected to be low for 12 months at least, as credit growth could remain moderate and inflation-adjusted property prices might decline.

Indian banks benefitted from high levels of stable core customer deposits, limiting the dependence on external borrowings. Extensive branch networks and large domestic savings supported deposit base. Banking regulations were broadly in line with international standards and regulatory oversight has been moderately successful. Nevertheless, directed lending and the dominance of government-owned banks made some market distortion, S&P added.

Competition from the proposed niche banks (payments banks and small finance banks) would be limited in the near term. They would need time to create franchises. Also, scope of operations and profitability was limited for these banks.

The Reserve Bank of India was strengthening regulations and the supervision of non-banking finance companies, too.

The banking sector was underpenetrated, with a large section of the population not having access to bank credit, deposits, investments, and other banking services. The increase in growth in India's nominal gross domestic product, along with a high savings rate, should provide room for efficient banks to grow, the rating agency added.