The Reserve Bank of India (RBI) today said high interest rates and a rise in non-performing assets (NPAs) may erode the profitability of banks in the coming quarters.
“The SCBs’ (scheduled commercial banks) profitability showed an improvement in 2010-11. Going forward, increasing interest rates, a rise in the savings account interest rate, amortisation of pension and gratuity liabilities and the potentially enhanced provisioning requirements for NPAs may hit the profitability of banks,” RBI said in its Financial Stability Report, which was released today.
The report assesses the health of India’s financial sector and is set to be released by the central bank bi-annually — in June and December every year.
In 2010-11, profitability ratios of the Indian banking sector showed an improvement, signaling a recovery of the Indian economy. The return on banks’ assets rose from 1.0 per cent to 1.1 per cent, while return on equity improved from 13.3 per cent to 13.7 per cent, compared to the previous financial year. Public sector banks, however, witnessed a marginal decline in profitability ratios, as higher provisioning for pension liabilities led to a sharp rise in staff expenses.
RBI said it was necessary to tighten prudential norms, since deterioration in asset quality posed a threat to growth in banks’ earnings in the coming quarters.
“Asset quality improved on the back of a rebound in the credit off-take, as credit growth outpaced the growth in NPAs. Going forward, the rapid credit growth also raised the possibility of large scale slippages, requiring continued vigilance,” the central bank said.
The gross NPA ratio of banks improved to 2.3 per cent from 2.5 per cent in 2009-10, while net bad loan ratio declined by 20 basis points to 0.9 per cent.
The banking regulator, however, remains worried, since “NPAs were becoming increasingly stickier”, and the slippage ratio for public sector banks stayed above the system average. Rising delinquencies in priority sector loans, especially in farm credit, was another area of concern. The gross NPA ratio in the agriculture sector rose to 3.3 per cent in March from 2.4 per cent a year earlier.
RBI also said the revival in the demand for bank credit was driven by a handful of sectors like retail, commercial real estate and infrastructure. High exposure to the real estate sector may stress banks’ asset quality, as NPAs in real estate loans remained above the system level NPA growth. “Going forward, the asset quality in this segment may decline further pressure, given the increasing interest rate environment,” RBI said.
The central bank, however, was comfortable with the capital adequacy of banks, despite a minor decline in the adequacy ratio due to the robust credit disbursement. The leverage ratio of banks in India remained above three per cent, as required under Basel III norms.
Foreign banks’ off-balance sheet exposure surges
The Reserve Bank of India (RBI) today said off-balance sheet exposure of foreign banks in India have increased significantly and a vigilant risk management framework was required to keep a watch on the associated credit risks.
The off-balance sheet exposures in India typically comprise simple products and deals, including foreign exchange contracts, guarantees, acceptances, and endorsements.
The off-balance sheet exposures of scheduled commercial banks in India, as a percentage of the total size of the balance sheet, rose to 198 per cent in March from 178 per cent a year ago.
“In case of foreign banks, OBS (off-balance sheet) exposure, as a proportion of their on-balance sheet exposure, rose from 1,554 per cent to 1,860 per cent during the year,” RBI said in its Financial Stability Report.
“The distribution of the aggregate notional amount of OBS exposures among bank groups showed a concentration of about 68 per cent in foreign banks and just 15 per cent each in case of PSBs (public sector banks) and new private sector banks,” RBI said.