Rising non-performing assets in Indian public sector banks require professional management

A rising non-performing assets (NPAs) in the Indian banking system is a matter of concern. It reflects poor health of the banking and financial institutions and their lack of efficiency in allocation of capital resources to productive sectors. The total gross NPAs increased from 9.6 per cent to 10.2 per cent between March and September 2017 and stood at Rs 8.40 lakh crore in December 31, 2017. Public sector banks (PSBs) accounted for 88.74% of the total gross NPAs. To tackle the massive NPA problem, a quick solution often resorted by the Indian government happens to be bank consolidation, a case in point is the recent merger of five associate banks with State Bank of India (SBI) on April 1st, 2017. Instead of re-capitalizing the merged entity in a big way, the consolidated net profit of SBI went down drastically to ₹241 crore while the stand alone net profit was ₹10,484 crore. The associate banks for the year 2016-17 had made a substantial loss of ₹10,243 crore! Clearly, merger, per se, is not the solution.

Measures so far – The Reserve Bank of India since 2011-12, initiated several restructuring programmes such as Corporate Debt Restructuring, Strategic Debt Restructuring, 5/25 scheme, Joint Lenders Forum, Asset Reconstruction Companies (ARC) etc. to enable the banks to resolve the stressed asset problem. These programmes, however, did not solve the underlying problems rather helped the banks to hide the actual extent of the stress on their balance sheets. In April 2015, RBI introduced the Asset Quality Review (AQR), which forced banks to recognize their NPAs and make provision accordingly to prevent further accumulation of losses. This measure, however, eroded bank capital while making provision for NPAs and resulted in decline in the growth rate of bank credit from 13.8% in 2014 to 5.8% in 2015. 

The Government of India made budgetary allocations of around Rs 70,000 crore for re-capitalisation or infusion of capital from August 2015 to 2019 under the Indradhanush program. But this public bailout is not sufficient. An additional Rs 1, 10,000 crore still needs to be raised by the PSU banks from the capital market in order to meet the capital adequacy norm as per the Basel III standards. Another action by the government has been to set up a Banks Board Bureau (BBB) in April 2016 to look into governance reforms in PSBs. The progress made by the BBB however, has been slow.

There are also ongoing debates and discussions on privatization and corporate governance of boards of PSBs, allowing foreign investments in PSBs, decoupling of Priority Sector Lending and market lending, creation of single “bad bank” where the NPAs may be transferred to clean up the balance sheets of all PSBs, sound regulatory frameworks and supervision by RBI and the likes. These measures to tackle rising NPAs in PSBs are systemic and complex in nature and involve considerable time lags between action and consequence. The need of the hour is professional management of PSBs – monitoring and assessment every step of a banking processes and practices. The following are few pointers towards developing professional management of PSBs:

1. Devise Business Vision and Strategy for each of the PSBs
   This will bring more clarity on the role and purpose of PSBs, to concentrate on specific regions or business segments and to evaluate its PSL as well as corporate lending practices.
2. Develop Leadership competencies and capabilities
   Identify, assess and nurture leadership potentials among senior management including general managers and deputy general managers for appointment as directors in PSBs. Appropriate incentives and recognition along with training for skill development, with clear terms and conditions of service, are needed.
3. Bank-specific recovery and growth plan with indicative annual and medium term targets
   Such plans would send clear messages to bank employees in charge of processing loan applications or/and granting loans, to keep a watch on the performance indicators of each of the loan accounts. The internal control mechanisms, including internal audit as well as accountability principles, should be drawn, with no room for discretion. Also accountability can be ensured through appointment of third party evaluation committee to examine the risk management practices, progress made towards recovery and report it on banks’ bulletin boards for general public to see.
4. Well-designed incentive system to elicit depositor cooperation and assistance
   To support banks’ feasible strategic plan of PSBs, a certain class of depositors who are willing to offer higher deposits beyond a certain limit may be issued financial recovery and viability (FRV) bonds of three-year maturity with a fixed coupon rate guaranteed by the government and the interest income should be tax exempted. This approach is better than bestowing “shares” to depositors through the conventional bail-in argument because the incentive for depositors to hold shares of problem banks, at least in the short period of a year or so, may not be sufficiently attractive for a large number of depositors.
5. Robust Information Technology (IT) and Management Information System(MIS)
   These mechanism would enable the PSBs to monitor asset quality and detect early signs of distress at individual account level as well as at segment level – asset class, industry, geographic, size etc. Likewise, linking Core Banking Systems (CBS) with Finacle technology (as mandated by RBI) to detect and prevent financial frauds and corruptions. Also the inconsistencies between information furnished under regulatory /statutory reporting and the bank’s own MIS reporting can be minimized.

To summarize, the right thing to do is for PSBs is to manage their bad loans more professionally, with the powers conferred by the bankruptcy and insolvency code, rather than taking easy route of mergers!

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