'Bad Assets Will Invite Downgrade'

Ken Mclay, director, Standard & Poor's financial ratings group, fears that with a greater decline in the asset quality of the banks and institutions, a possible downgrade could soon be staring at us in the face. Government ownership of these institutions is not going to support them at the current level. In a freewheeling interview with Abhijit Das, he speaks of the inherent problems in the banking sector and its possible consequences.

What is your view on the NPA norms in the country ?

The norms, although much better than say Thailand or Indonesia, leave much to be desired. It is very difficult to deregulate the economy without actually tightening the norms as they exist now. If you are lending to corporates and they default, it is an NPA without exception.

 

However, banks have found ways to go round it by further lending, what is termed as evergreen debt.

Some banks even choose not to see it as an NPA. In fact, if the asset quality declines further we could be looking at a possible down grade. Government ownership is not going to support them at the current level.

How is this factored into the rating exercise?

Whenever we assign ratings to any institution, they are of two types. Firstly, there is a local currency rating and then there is the foreign currency rating. India for example has a local currency rating of BBB+ and a foreign currency rating of BB+.

The point is some financial institutions, which includes both banks and development financial institutions, have a local currency rating of BB+, which is lower than the sovereign rating.

But as all our local currency ratings are confidential, we cannot reveal any of them. There many instances globally where government owned banks do not enjoy sovereign ratings.

Could you elaborate?

Let us take, for example, a small government owned bank. If the government had to support all banks owned by it, it would clearly accord more attention to an institution such as the State Bank of India and would do everything to support it.

It may not do the same for a smaller bank. So while rating this bank, it will not have the same advantage as a larger bank.

What do feel will be the impact of the Rouble devaluation and the impending Chinese Yuan devaluation on Indian institutional ratings?

It would have a two fold impact on both sides of the balance sheet.

On the liabilities side, there are the direct loans and deposits which the banks and institutions have and on the asset side there are the corporate loans which they have disbursed.

One the one hand, it would become very difficult to meet their liabilities while corporates will find it increasingly difficult to pay rupee borrowings as their foreign currency liabilities grow because of the devaluation. The devaluation will have a negative impact on the asset quality, but we don't expect a major impact since the banks are not heavily reliant on short term foreign currency debt.

How do you view the regulations existing in the banking system presently? For example, a recent guideline stating that banks had the discretion to decide whether the infrastructure loans given by them are bad or not?

We are concerned with the relaxed norms on asset classification, which exist presently. The government, in conjunction with the regulators, has taken the view that they need to support infrastructure funding and are telling the banks that `you provide the funding and we will give you some leeway in asset classification'.

When we decide on the rating, we will definitely include them as non-performing assets. We specifically ask institutions the extent of their exposure to infrastructure projects.

How do you view bank mergers, a buzz word today in the banking industry? How would you rate a merged entity?

A bank merger in the present times will have more negative connotations since the labour laws today do not allow you to close down branches or retrench staff. Which means that you are only adding overheads of both the banks into a single entity.