At a time when bad loans are witnessing a surge, the rate of recovery of bad assets by banks has taken a knock. The rate of recovery of NPAs was 10.3% in 2015-16, against 12.4% in 2014-15 and 18.4% in 2013-14.
Demonetisation will put pressure on NPAs especially for SMEs whose turnover has been affected amid fixed interest costs.
The lower performance of banks is more due to the extra provisioning that they have done to clean up their balance sheets. As the economy recovers, the NPA levels will come down. The system has better recognition norms is comforting.
Rating agencies have voiced concern over public sector banks’ capital needs and inadequacy of funding options. They expect asset quality to be under pressure over next year. Despite government’s plans to increase capital infusions into banks, rating agencies cautioned that more injections were required to support banks’ credit needs, while the latter also manages pressures of asset quality, resolution of problem loans and elevated credit costs.
Banks are now pinning their hopes on the Insolvency and Bankruptcy Code, 2016 which can potentially release about Rs 25,000 crore capital currently locked up in NPAs over next 4-5 years. The code is likely to help India’s banking sector catch up with or even exceed the recovery rates of 32% and average time taken of 2.8 years in other emerging markets. Institutionalizing the code will be a long-drawn affair and it may not provide any material capital relief to banks over short term.
While Banks are saddled with huge cash due to demonetization improving its liquidity, this has left informal economy with deprivation of working capital and impact on this segment will obviously effect formal economy as well. With banks lowering interest rates, people will withdraw money to invest or lend to informal sector which pays much higher interest rates, despite risks. Since informal economy employs unskilled, illiterate, semi skilled, uneducated and less educated who are otherwise unemployable in formal economy, safeguarding informal economy is paramount.