Finance minister Arun Jaitley, speaking at the bankers retreat at the beginning of the year, said that both he and the prime minister would like to be acquainted about the challenges faced by the public sector banks (PSBs). Jaitley, among other things, was seeking solutions for one of the most pressing concerns confronting PSBs: in the FM’s words, “how to get out of the stress created by non-performing asset (NPA)”.

During the same retreat held during January 2-3 in Pune, Reserve Bank of India (RBI) governor Raghuram Rajan also flagged the issue of the rising NPAs among the PSBs when he said, “In the short term (up to 12 months) there is need to clean up the NPAs and then restructure other stressed loans so as to put the economy back on the track.”

The problem is of course not new – it has been deliberated upon at different forums in the last few years. Directives have been issued at regular intervals to PSBs to check the NPAs. At a quarterly review meeting of PSBs and other financial institutions in November last, Jaitley asked the bankers to “honestly analyse the reasons for the same and take necessary corrective measures accordingly”.

While the rising NPAs have been attributed to several factors, ranging from sluggish economic growth to non-adherence to the apex bank guidelines, data highlighting the persistence of the problem clearly indicates the failure of the banks in taking “necessary corrective measures”.

According to the Economic Survey, fiscal 2014-15 “saw some stress on the asset quality of the scheduled commercial banks as there was an increase in gross NPA to the total gross advances”. NPA increased from 4.1 percent (March 2014) to 4.5 percent (September 2014).

The Economic Survey also states, “As on June 2014, five subsectors, viz., infrastructure, textiles, iron & steel, mining and aviation hold 54 percent of total stressed advances of PSBs.”

The survey talks about the RBI measures to check rising NPAs which include issuance of guidelines “prompting banks to act as soon as a sign of stress is noticed in the borrower’s actions and not to wait for it to become a NPA”. It also tightened the norms for asset reconstruction companies and increased the minimum investment in security receipts from 5 percent to 15 percent along with issuing guidelines to bring flexibility in project loans to infrastructure and core industry projects.

But why does this huge hole at the heart of the banking sector keep expanding in the first place?

Reasons at the core

Mewat, a dusty town in Haryana, is the perfect example to understand the problem. Tribhuvan Singh, district lead bank manager (the lead bank here is Syndicate Bank), says that the NPA in the bank branches in Mewat stands at around 25 percent and in some cases it is around 40 percent – against the national average of about five percent.

In 2011, a financial inclusion scheme called ‘general credit card’ was launched in Mewat to provide hassle-free credit to people of small means in rural and semi-urban areas. An overdraft or cash credit facility was extended for meeting general credit needs of customers of small means without insisting on purpose, security or end-use. The credit limit was '25,000. The well intentioned scheme failed badly to meet its real purpose of providing affordable credit, as most of those who took overdraft did not return the money.

Bankers in Mewat say there is useless pampering of the people who have the ability but no intention to pay back. They complain of pressure from their seniors to give loans without identifying the right beneficiaries – in order to meet targets set by political leadership. In the process, the local factors are ignored.

The reason for high NPA in this district is obvious. In the last few years Mewat, predominantly a backward area with high prevalence of illiteracy and unemployment, has become the laboratory for experimenting various financial inclusion schemes. Different governments have tried to launch such initiatives in the district with little focus on financial prudency.

Bankers are expected to give loans for productive work. But Singh says, “It does not matter whether the customer who is given the loan is going to invest it in productive work or not. The point is to identify the people who will be willing to repay.”

A good example here would be women self-help groups (SHGs). Singh points out, “These groups have taken loans and have paid it before the due date. All the money they took was not necessarily for productive work. Some of it was to meet some family obligation and for children’s education. But they have the willingness to repay. There is strong peer pressure, so they don’t default.”

According to bankers, what further leads to increasing bad loans is the fact that mechanisms at deposal are not used to recover the loans. Singh says, “Recovery of the loan amount through the SARFAESI [Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest] Act can be an important tool to check the bad loans. But it is seldom used.”

A banker who did not wish to be named says, “See, there are political compulsions. There is sizeable minority population here and no political disposition wants to upset them by attaching their property in case of failure to pay back loans.”

Thus, what banks need to solve the NPA problem is less interference and more autonomy – a theme very much stressed by the PM at the bankers retreat. He had then assured the banks there would be no “political interference” in their functioning, and said “there will never be any phone call from the PMO.” That assurance, if implemented, will surely reflect in the financial reports of the banks.

Joint lenders forum: A probable game changer

The latest idea to stem the problem is to form a joint lenders’ forum (JLF). The RBI introduced a new ‘stressed asset management framework’ on April 1, 2014 which included the setting up of a JLF for accounts that were overdue by more than 60 days. The idea was to identify stressed accounts in time and speed up the process of resolution before the problem goes out of hand by constituting a JLF comprising all lenders. After 45 days, the JLF must come up with a corrective action plan (CAP) and decide whether the debtor merely needs some hand-holding, or if the forum should opt for debt restructuring or recovery.

Banks implemented the idea, and formed 355 JLFs between July 1, 2014 and February 26, 2015 (254 of them by PSBs, led by State Bank of India with 107). However, the JLFs have made little headway because bankers have usually disagreed on how to proceed with a CAP.
An exasperated finance ministry on March 18 asked bankers to adhere to decisions taken by larger lenders within the JLF to recover bad loan.
shishir@governancenow.com

(The aricle appears in the April 1-15, 2015, issue)