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The Covid-19 pandemic threatens to result in balance sheet impairments and capital shortfalls for banks, especially as regulatory reliefs are rolled back, cautioned Shaktikanta Das, Governor, Reserve Bank of India (RBI), in the latest Financial Stability Report (FSR).
As per the latest (January 2021) FSR, gross non-performing assets (GNPA) ratio of scheduled commercial banks (SCBs) could rise to 13.5 per cent by September 2021 from 7.5 per cent in September 2020 under the baseline scenario.
The July 2020 FSR had estimated that GNPA ratio of all SCBs may increase from 8.5 per cent in March 2020 to 12.5 per cent by March 2021.
SCBs’ net NPA ratio has improved from 3 per cent in March 2020 to 2.1 per cent in September 2020.
According to the latest FSR, if the macroeconomic environment deteriorates, the GNPA ratio may escalate to 14.8 per cent by September 2021 under the severe stress scenario. The previous FSR projected this ratio at 14.7 per cent under this scenario by March 2021.
The report observed that these projections are indicative of the possible economic impairment latent in banks’ portfolios.
“Congenial liquidity and financing conditions have shored up the financial parameters of banks, but it is recognised that the available accounting numbers obscure a true recognition of stress,” said Das in his ‘foreword’ to the FSR.
In the aforementioned context, the Governor emphasised that banks must exploit the congenial financial conditions and the conducive policy environment to plan for capital augmentation and alterations in business models that address emerging challenges for future expansion, while strengthening the capacity to absorb shocks and supporting the revival of the economy.
The report said that going forward, capital and liquidity cushions in banks’ balance sheets will have to contend with the rollback of regulatory forbearances announced in the wake of the pandemic.
True economic value
Capital and asset quality ratios of SCBs will be tested as the true economic value of portfolios of banks and other financial intermediaries is impacted by the disruption caused by the pandemic.
Referring to the stress tests, the report said they also indicate that SCBs have sufficient capital at the aggregate level even in the severe stress scenario, butat the individual bank level, several banks may fall below the regulatory minimum if stress aggravates to the severe scenario.
FSR cautioned that the actual capital cushion available with banks could be overstated in view of the regulatory forbearance.
The need of the hour is for banks to assess their respective stress situations and follow it up with measures to raise capital proactively, it added.
SCBs’ capital to risk-weighted assets ratios (CRARs) improved from 14.7 per cent in March 2020 to 15.8 per cent in September 2020.
Stretched valuations
Das underscored that the disconnect between certain segments of financial markets and the real economy has been accentuating in recent times, both globally and in India.
“Stretched valuations of financial assets pose risks to financial stability. Banks and financial intermediaries need to be cognisant of these risks and spillovers in an interconnected financial system,” he said.
In a period of continued uncertainty, the report opined that the risks of spillovers (with macrofinancial implications from the disconnect between certain segments of financial markets and real sector activity) has implications for the banking sector as its balance sheet is linked with corporate and household sector vulnerabilities.
“Movements in certain segments of the financial markets are not in sync with the developments in the real sector.
“The focus of the policy efforts is shifting from provision of liquidity and guarantees to supporting growth, including consumption and investment,” FSR said
