Credit where it isn't due

The banking system is stressed by indiscipline and pressure to help hopeless companies

An old saying goes: “If you owe thousands, you have a problem; if you owe crores, the bank has a problem.”  By that logic, the banking sector, and indeed the entire financial sector, has a big problem. Collectively, it “owns” several lakh crores in impaired assets. There have already been some spectacular disasters. The bill for GTL is Rs 22,000 crore. Air India “needs” Rs 30,000 crore. Kingfisher Airlines owes Rs 6,500 crore — and State Bank of India (SBI) is working on how to “help” it. Many other companies in the “too-big-to-fail” category are also restructuring, or verging on default. In all, over Rs 26,000 crore is under consideration for restructuring at the moment. The power sector is a particularly egregious offender. By March 2010, banks had exposures of over Rs 58,000 crore in doubtful loans to state utilities alone. And specialised institutions like the Power Finance Corporation (PFC), the Rural Electrification Corporation (REC) and the Infrastructure Development Finance Company (IDFC) have higher percentages of doubtful assets than the banks.

A recent report from Goldman Sachs reckons impaired assets (gross non-performing assets + restructured debt) could reach 5.5 per cent of gross banking credit by March 2012. That is a small matter of Rs 2,52,000 crore — or three per cent of GDP! The net non-performing asset (NPA) level, between one and 1.5 per cent, is clearly misleading in the Indian context, since restructured loans are not accounted as NPAs, and banks have the leeway to resort to other accounting tricks as well. Another report, from Barclays, examines corporate debt concentration. The top 100 borrowers account for over 70 per cent of outstanding corporate debt. More than half these 100 large debtors have net debt to market capitalisation multiples of above 4. As many as 29, with cumulative borrowings of over Rs 3 lakh crore, have debt-to-equity ratios of over 2, and 27 have net debt to EBITDA multiples above 4. This is ugly — more loans could easily go sour. Bank credit share in GDP is around 50 per cent. If we add exposures by various non-banking financial companies (NBFCs), and IDFC, PFC, REC, and so on, the ratio rises.

Debt recovery is barely functional in practice, due to the cumbersome processes. The financial system will thus lurch along, hoping for government-sponsored bailouts, implicit sovereign guarantees, and rate cuts by the Reserve Bank of India. Anecdotally, banks are cutting exposures to troubled areas, but while better credit discipline is welcome, it is rather late in the day. The government needs to stop the bleeding in the power sector, and accelerate the overall restructuring and debt recovery processes. State-controlled banks like SBI should not be pushed into bailing out politically-favoured private companies. Credit discipline is the foundation of a market economy; credit indiscipline breeds crises. Those worried just about increasing food subsidies are missing the point. Yes, the bill for food security might add Rs 30,000-40,000 crore to expenditure. But the numbers involved in implicit guarantees and bailouts for companies are so staggering that complaining just about the bill for feeding the poor is ridiculous.