RBI's warning signal

Stressed assets still a big problem for banks

The Reserve Bank of India's latest Financial Stability Report (FSR), released on Tuesday, had some interesting points to make about the corporate sector - the number of leveraged companies has fallen and the amount of debt in companies' books has also declined. According to the FSR, a sample of about 2,600 listed non-government, non-financial companies showed that the proportion of both leveraged and highly leveraged companies fell in March 2016 from a year ago - leveraged companies, with a negative net worth or a debt-to-equity ratio of two per cent or more, dropped to 14 per cent of the RBI sample size in March from 19 per cent in the year-ago period. The debt of these companies also dropped to 20.6 per cent of the total corporate debt compared with 33.8 per cent in the previous year. In line with that trend, stressed loans to the infrastructure sector have come down sharply, as the stressed advances ratio of the sector fell by nearly five percentage points between September 2015 and March 2016.

While these are encouraging numbers, they don't tell the full story. As the RBI itself has indicated, there is just no room for complacency; rather, there may be more pain ahead as the risks to the banking industry's stability have increased sharply. That's because gross non-performing assets of banks jumped to 7.6 per cent in March from 5.1 per cent in September. The top 100 borrowers accounted for nearly a fifth of these NPAs and total stressed assets increased slightly to about 11.5 per cent of banks' combined loan book. Capital levels of lenders also remain under stress. And what's worse, according to the FSR, public sector lenders may see their capital adequacy ratio drop to 10.3 per cent by March, 2017, down from 11.6 per cent in March, 2016. The capital adequacy of the banking system as a whole may slip to 12.1 per cent by September under the baseline case and to as low as 11.7 per cent under extreme stress.

What this means is that a faster recovery in corporate and banking health is going to be a tough challenge because companies are still highly leveraged, they are short of cash to invest and the banking sector is far from being out of the woods. So, while a large number of companies are in no position to make fresh capital expenditure in an unfavourable business environment, not many banks are in a position to make fresh lending for large private sector-led projects as the level of stressed assets in the system remains quite substantial. For any investment recovery to happen in this context, the government has no option but to step in and keep increasing public investments as enhanced spending on physical and social infrastructure could have significant backward and forward linkages producing a multiplier effect through various sectors and manifesting in higher overall growth.

Many economists have opined that at present, infrastructure spending is about six per cent of the gross domestic product (GDP), which needs to be increased to at least nine per cent to make a yearly growth rate of eight per cent sustainable over the long term. The current year's Budget has moved in that direction, but more sustained work is needed going forward. After all, India has to not only improve the investment rate, but also enhance the utilisation of capital so that the most productive and priority sectors get the requisite level of capital funding.