The trouble for public sector banks (PSBs) continues to haunt the entire banking sector, particularly since a total of 21 PSBs account for roughly 70% share of the assets of the entire India banking sector. High level of non-performing loans (NPAs), lack of accountability and poor corporate governance have led to lackluster performance and capital erosion (examples of Nirav Modi and Vijay Mallya come immediately to mind). Capital is of utmost importance to banks for expanding credit, earning interest and growing their balance sheet. The amount of advances a bank is permitted to disburse (interest earned on advances comprise the primary source of income for banks) is directly related to the amount of capital it maintains. High credit growth coupled with high economic growth has led to more than the doubling of advances provided by PSBs between 2008 and 2016. The rise in advances, stringent capital adequacy norms imposed by RBI, high levels of NPA and poor performance of PSBs have led to significant capital erosion and the requirement for further capital. This capital can come from either capital markets or the government (which is the majority shareholder of PSBs). The underperformance of PSBs and a pile of bad loans come in the way of PSBs accessing capital markets and hence the only option remaining is the government needing to step in to rescue PSBs.
Giving us a glimpse into the poor state of our public banking sector is the fact that 11 out of 21 PSBs are under the prompt corrective framework (PCA) of the RBI which imposes lending restrictions and other curbs on weak banks until their financial health is restored. PCA is a sort of regulatory prison that banks with weak balance sheets are put under. The PCA framework kicks in when banks breach any of the three regulatory trigger points, namely capital-to-risk weighted asset ratio (CRAR), net NPAs and return on assets. Banks placed under PCA framework are unable to lend money at a time when the government is pushing for loans to the MSME sector and the cash-strapped NBFC sector, which may dent their chances of a successful election campaign with general election just around the corner in the middle of next year.
It is with this intention that the centre in October 2017 announced a massive bank recapitalisation plan for PSBs to the tune of a whopping Rs 2.11 lakh crore over two years. Of this total amount, Rs 65,000 crore was to be infused in the current year. However, the centre on Thursday sought parliamentary approval for a further Rs 41,000 crore of fund infusion taking the total of this year to Rs 1.06 lakh crore. The additional capital could help as many as 5 out of the 11 PSBs exit the PCA framework thereby greatly reducing the pressure on other banks to provide loans to a cash-strapped economy. The funds would also ensure that non-PCA banks do not breach the threshold and have lending restrictions placed on them. In addition to this, the mega entity formed earlier this year by the merger of Bank of Baroda, Vijaya Bank and Dena Bank is also expected to be provided with regulatory and growth capital for smooth functioning. Out of the total amount of Rs 1.06 lakh crore set aside for capital infusion this year, an amount of Rs 23,000 crore has already been disbursed with Rs 83,000 crore still pending disbursement in the remaining months of 2018-19.
Top officials at rating agencies of CARE and ICRA have given this plan a thumbs up suggesting that the accelerated pace of the government’s plan to recapitalise banks will be a boost for the economy. A bulk of the recapitalisation will be done via a bond issue and a portion will come from other sources including possibly from the interim dividend that the centre is demanding from the RBI. Both these issues (lifting banks up from the PCA framework and RBI providing dividend to the government) formed part of the reason that former RBI governor Urjit Patel butted heads with the centre which eventually led to his resignation from the central bank which left a bad taste in the mouth of many. So, while the intentions of the government to help out the ailing PSBs seem bona fide, the source of funds needed must not come at the cost of compromising our fiscal deficit or endangering the reserves of the RBI.