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Thursday, 10 November 2011 00:00
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Government gets Moody

Ostrich-like government should read RBI stress report

 

When Crisil put out a report on how R560bn of power sector loans were likely to need restructuring in the next 18 months if no credible reforms were undertaken, the finance ministry dismissed this as fear-mongering, saying there was no problem—Wednesday’s newspapers ran stories of how banks were being asked to restructure power loans and how some were even stopping disbursement of fresh loans. When Moody’s lowered the outlook on Indian banks to negative yesterday, the ministry said it would have no impact and that Indian banks were better than their global peers. Of course they are, but keep in mind every bank’s NPLs have risen—in the case of SBI, which declared results Wednesday, gross NPLs are up to 4.2% and there are fears (see More profits, less caution for SBI) the bank may have under-provisioned. Keep in mind Moody’s lowered outlook is based on a highly-adverse stress scenario which may not happen, but given the Indian circumstances (higher interest rates and lower growth always means higher NPLs) and the global crisis, it may not be outrageous—as Cup of woes runneth over alongside this piece points out, the IMF’s latest spillover tests show a 1% GDP shock in the US will result in a 0.8% GDP shock in India, which is 7-8 times what conventional models suggest.

The finance ministry would do well to read the RBI stress test on banks conducted six months ago. While RBI did conclude “the banking sector remains adequately capitalised and resilient to asset quality shocks and other plausible adverse changes in macroeconomic scenario”, it’s a good idea to look at its ‘banking stability map’, basically a Porter-type diamond which deals with changes in ‘soundness’, ‘asset quality’, ‘profitability’, ‘liquidity’ and ‘efficiency’. RBI says asset quality, profitability and efficiency have all fallen significantly in the last year—if RBI comes to the conclusion that all is still well, it’s because it assumes the government will give banks the capital they need. This is the fig leaf that Moody’s has removed, apart from rightly pointing out that the gross and net NPLs are all a ratio to the loan book, so when the economy slows, so will the loan book and NPLs will automatically rise. Moody’s also points out that, with banks restructuring more loans (think power sector, Air India …), the NPLs will get another boost. A back-of-the-envelope calculation on credit growth indicates that, over the next five years, based on a 9% capital adequacy, PSU banks will need R6,00,000 crore of additional tier-1 capital. The government doesn’t have the funds or the sagacity to dilute its equity and allow banks to raise it from the market. If that doesn’t call for a lowered outlook, what does?

 

 

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