Good news but no bank holiday

Good news but no bank holiday

RBI’s latest report on financial stability finds that public sector banks (PSBs) are on the mend, with bad loans likely to fall in the coming months. This is good news. A turnaround in the nonperforming assets (NPA) cycle is expected to reduce the gross NPA ratio of PSBs to 12% by March 2020 from 12.6% in March 2019. Faster recapitalisation has helped improve banks’ capital adequacy ratio and a pick-up in credit growth. More reforms are needed for banks to become profitable and healthy. For starters, governance and supervision of bank boards must be improved by overhauling the decision-making structure and culture in PSBs. A holding company structure to give PSBs full functional and operational autonomy brooks no delay.

A revamp in the remuneration of senior bankers at PSBs to make it market-comparable, which mirrors the time-horizon of the risks assumed, should go hand in hand. This will motivate bank CEOs to file defaulters for bankruptcy. The bankruptcy code has already brought about a behavioural change in debtors who want to settle defaults to avoid losing their companies. It must also work better for swift resolution of corporate distress.

RBI’s caution against the potential risks posed by failing nonbanking financial companies (NBFCs) is not misplaced, given the rising symbiosis between banks and NBFCs. There is no cause for panic now, but things can go wrong if structural problems are not fixed. NBFCs fulfil a need that banks can’t meet. These entities raise short credit that’s often rolled over, and lend for a longer term. A break in the cycle results in a crisis for the financing company and the borrower. The only way to get past this asset-liability mismatch is to create and support a market for long-term bonds. RBI must ensure that the failure of shadow banks doesn’t impinge on the banking system.