The pandemic has made everyone worried about the enormous
amount of defaulters that will emerge after the moratorium will end. Already
the Indian banking system has one of the worst Gross NPA (GNPA) ratio among
large economies at 8.8% in March 2020 and as per RBI, it is expected to reach a
staggering 12.5% by March 2021. This has led everyone to ask a question to
themselves, is India in a need to have a bad bank to load of these NPAs to it?
It is a bank set up to buy the bad loans & other illiquid holdings of other
financial institutions. The bad bank will purchase the holdings of the entity
holding significant nonperforming assets at market price. By transferring those
assets to the bad bank, the original institution may clear its balance sheet,
although it will still be forced to take write-downs.
As of now in India, there’s no bad bank set up rather it has
private Asset Reconstruction Companies (ARC) which have been buying NPAs from
banks and turning them around. However, the business model hasn’t yielded the
desired results. There are around 29 ARCs in India. There is an added urgency
now because the government has put on hold, new references to the National
Company Law Tribunal (NCLT) under the Insolvency & Bankruptcy Code (IBC)
for one year in light of the COVID-19 pandemic. The ARCs merely act as recovery
agents as they lack the bandwidth to reconstruct any company under stress which
is sold as a going concern. ARC model’s efficacy has been under question. Also,
it has been noticed that most of the assets sold to ARCs have been sold way
below its marketable value.
There has been a question, whether the bad bank should be
private or public, but better management would be when all the major banks have
a stake in the bad bank, which will help increase the profits on this NPA. This
is because most of the bad loans are either inherently viable projects, given a
haircut to reduce bloated project costs, like the recent liquidity crunch in
the real estate sector. If only were these assets sold to a bad bank, recoveries
can be easily made on these projects and these can be turned around with
efficient management and flow of funds to a profitable business amidst a
crashing economy. Also, it’ll allow the banks to be free to lend and not worry
about the existing NPAs and help growth to pick up.
If the economy has to come back on track, then lending has
to resume in a big way. As a rule of thumb, credit growth is roughly 2-2.5
times GDP growth.
Banks are already
burdened with bad loans running at Rs 13-14 lakh crores post COVID-19, banks
will not lend unless they can park their bad loans with someone without being
accused of selling the assets off too cheap. A bad bank collectively owned by
the banks in proportion to their bad loans would blunt the criticism. It must be
given a chance.
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