Tag: retail loans

Banks have improved the granularity of their loan books by focusing more on retail asset classes and reducing potential asset-quality shocks due to defaults by large entities. The share of medium and large industries in non-food credit of banks fell from ~40% in fiscal 2012 to ~27% in fiscal 2020, while that of personal loans rose from 18% to 28%.

While granular loans to retail borrowers and micro, small and medium enterprises (MSMEs) can result in elevated stress during the pandemic, given the unprecedented impact on household incomes and small businesses, policy mitigations announced would limit the impact to some extent.

Crucially, measures such as moratorium on loans, relief in interest on interest, one-time debt restructuring, and emergency credit line guarantee schemes have thrown many a lifeline to businesses and households. They also helped banks, especially those with diversified portfolios, thwart significant slippages.

The other major reason for systemic resilience is capital infusion. Public sector banks (PSBs) have raised ~Rs 3.4 lakh crore of equity in the past five years, bulk of it from the government.

That has shored up systemic capital adequacy ratio to 14.7% last fiscal and further to 15.8% as of September 2020 – almost on a par with advanced economies such as the US (15.9%) and South Korea (15.3%). Private sector banks are in a better position, reflected in their capital adequacy ratio of 16.7%, compared with 13.1% for PSBs as of March 2020.

To be sure, NPAs would rise in the pandemic aftermath and necessitate high capitalisation levels.

Robust capitalisation facilitates timely recognition and quick resolution of pandemic-related stress and faster recovery of credit growth. The different trajectories of banking systems in the US and the euro area after the GFC demonstrate this. Higher recapitalisation of US banks compared with the euro area enabled faster resolution of stress and facilitated quicker recovery of credit growth after the GFC in the US.

While it is natural for credit growth to be muted during a crisis due to lower demand and risk aversion, it is important that the pace improves once uncertainty abates and demand returns.

There are two reasons for this. One, bank credit growth significantly influences the growth trajectory of a developing country like India where credit to the private non-financial sector is underpenetrated at ~58% of GDP, compared with over 150% in the US, euro area, South Korea or even China.

Two, it is an essential condition for banking system resilience. Banks need to grow and diversify their loan books to enhance profitability that, in turn, is the key to building capital buffers against future risks and growth. Profitability can be sustained only through credit growth, backed by robust risk management and appropriate pricing.

As the pandemic-related stress continues to unfold, the improved resilience of Indian banks will be tested. A continued focus on shoring up capital to withstand asset-quality pressures will pave the way for credit growth as recovery gathers pace.

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