Opinion Express View on RBI governor’s observation about the banking

Banks must heed this timely warning on hiding bad loans and take corrective action

Reserve Bank of India, RBI governor’s observation, Banking, Indian Banking system, bad loans, NPA, indian express, indian express news

May 31, 2023 07:47 AM IST First published on: May 31, 2023 at 06:10 AM IST

For the better part of the last decade, the Indian economy has been plagued by the twin balance sheet problem — of an overleveraged corporate sector and bad loans in the banking system. This balance sheet problem was linked to the collapse in private sector investments in the economy.

But, recently, in the case of both the financial and the corporate sectors, an improvement has been observed across a range of financial indicators. For instance, on the corporate side, profitability has risen and there are signs of firms bringing down their debt levels. Banks too have seen a drop in their bad loans — gross non-performing assets have fallen from 11.46 per cent at the end of March 2018 to 4.47 per cent in December 2022, alongside which the stressed assets to gross advances ratio has also witnessed a similar decline.

Banks have also registered strong growth in their profits, and have bolstered their capital adequacy levels. These trends had indicated that the twin balance sheet problem had been resolved, and was no longer an impediment to growth. However, the Reserve Bank of India Governor Shaktikanta Das has now made some troubling, disquieting observations about the banking system. These warrant close attention.

Das, in his address to the board members of public and private sector banks, has raised concerns over the aggressive growth strategies and the “innovative” ways of evergreening loans being adopted by banks that was revealed during the regulator’s supervisory process. The practice of evergreening allows banks to avoid classifying a loan as non-performing. And as banks have to make higher provisions in their books if a loan turns non-performing, evergreening helps banks delay recognition, allowing them to present a healthier balance sheet.

While Das has not named the banks, considering his comments, the nature of examples given, it is possible that these are not just a few isolated cases that are being referred to. Since the regulator has been vigilant on this issue and closely monitoring the asset quality of banks over the years, the governor’s statements are a cause for concern.

That banks are evergreening loans, and are resorting to creative methods to conceal the true status of loans, points towards gaps in the regulatory architecture. It also suggests a likely buildup of stress in parts of the system. Moreover, giving more credit to weak firms leads to the misallocation of capital. This does not bode well for an investment revival. The RBI governor’s comments should thus serve as a timely warning for the system. Banks need to ensure early identification of risks, take timely action to resolve bad loans, and not let the problem fester like in the past. The gaps in corporate governance noticed by the central bank need to be plugged, immediately.