Reducing capital requirement norms not in best interests of the economy, says the central bank

Indian banks, especially those in the public sector, that have been reeling under stressed assets for the last few years, may have something to cheer about in the new year.

This is because the Reserve Bank of India (RBI), in its annual ‘Trends and Progress of Banking in 2017-18’ report, pointed out to the revival in credit growth in the first half of current financial year, and said, “overall improvement in the health of the banks is on the cards.”

In addition, the banking regulator also noted that the stressed assets of banks had begun to stabilise, albeit at elevated levels.

“Hearteningly, credit to industry — which constitutes the major share in the aggregate — has picked up steam after depressed conditions in the previous year,” the report said.

It added that the banks’ capital positions had been buffered and the provision coverage ratio had improved to 52.4% by end-September 2018.

Regaining momentum

These developments augur well for the banks and other financial intermediaries in the economy as they struggle to regain the momentum lost in the preceding six years, it said.

The report noted that the balance sheet expansion of commercial banks between 2012-13 and 2017-18 had been slow due to an increase in stressed assets but during the first half of the FY19 ‘growth returned to the balance sheet bolstered by recovery in loan books.’

RBI also pointed out that recapitalisation of public sector banks for 2018-19, which was enhanced to ₹1,06,000 crore from ₹65,000 crore, was aimed at meeting regulatory capital requirements.

At the same time, the central bank reiterated its stand that relaxing capital requirements was not in the best interests of the economy as current levels of provisions maintained by banks may not be enough to cover expected losses.

“... there have been calls for reducing the regulatory capital requirement. Against the foregoing however, the case for minimum capital requirements would need to be carefully assessed — frontloading of regulatory relaxations before the structural reforms fully set in and conclusive evidence on sustained improvement in cumulative default rates (CDR) and loss given defaults (LGDs) is observed — [and] could be detrimental to the interests of the economy.”

So far as bad loans are concerned, the RBI said while gross NPA ratio of public sector banks reached 14.6% in 2017-18, there was a significant decline in fresh slippages across bank groups during the first half of 2018-19.

Regarding banks under the prompt corrective action framework, the report said those lenders have shown improvement in the share of current and savings account deposits and increased recoveries from NPAs, while reducing riskiness of assets.

“They have also shown lower growth in gross NPAs, relative to non-PCA PSBs,” the report said, adding asset quality and capital position had experienced deterioration.

Conflict of interest

Observing that the presence of RBI officials in the boards of public sector banks leads to ‘serious conflict of interest,’ the central bank said there is a need to bring in legislative changes to do away with the requirement of nominating RBI officials as nominee directors on the boards of PSBs.

The central bank also said appropriate regulatory actions were taken against some private sector banks on account of certain lapses in their functioning and governance.

The RBI said a review of the compensation norms of whole-time directors in private sector banks is on the cards.