India Inc faces a balance-sheet slowdown: Revival is unlikely before 2015-16

There is good reason to believe that industrial growth and the investment cycle will not revive substantially this financial year, but may begin only from 2015-16 - the next financial year.

There are two (connected) reasons for this assessment.

First, what we are witnessing right now is a balance-sheet industrial slowdown. Companies are struggling under loads of debt, and their first priority is thus to get their balance-sheets in good shape by reducing or recasting debt. According to India Ratings, part of the Fitch Ratings group, of the 500 largest borrowers from banks, 82 are in debt trouble, and another 83 are teetering on the brink of trouble. By “trouble” we mean banks have categorised the first 82 loans as bad, or have marked them out for restructuring. The other 83, says India Ratings, have “severely stretched credit metrics.” This means their “operating profitability barely covers the interest required to be serviced.” So forget about investing in growth.

Second, if business is facing balance-sheet trouble, can the banks who lend to them be far behind? According to India Ratings, the loan accounts already tagged as bad and those which could go bad in the next five months (coinciding with the fiscal year-end in March 2015) will add another Rs 60,000-1,00,000 crore of restructured debt (where repayments are rescheduled, often at a lower rate). Since the accounts of several coal mines that were declared illegal by the Supreme Court in September will also be stressed, it means banks have to plough back more of their profits to shore up capital or raise new capital. They will thus be fixing their own balance-sheets this year, too. They will not b eager to lend, just as borrowers are not willing to borrow more.

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The upshot is simple: India Inc and its bankers are not going to be in any mood to invest when they are trying to fix their debt and bad loan problems simultaneously.

Since the regulatory forbearance of the Reserve Bank of India on the recognition of bad debt and restructured debt will end from 1 April 2015, it means banks will have to provide more capital and also be ready to write off more bad loans this year, when the norms are easier. This is why India Rating believes that banks may speed up their debt restructuring efforts in the remaining five months of the year, when the regulatory forbearance remains.

In the west, the concept of a balance-sheet recession is well understood. A balance-sheet recession is one where the economy slows as individuals and companies reduce spending and investment in order to pay down debt.

There is no recession in India, given the high levels of government spends, but India Inc and its banks are currently experiencing a version of a balance-sheet-driven economic slowdown.

The government has made things worse by keeping its fiscal deficit target low at 4.1 percent this year, and cutting down on investment spending instead of subsidies and consumption expenditure. This is extending the slowdown beyond what is needed. In the April-August period this year, the Index of Industrial Production had grown only 2.8 percent, and things are unlikely to improve significantly for the year as a whole.

A good flow of government orders to the private sector by keeping plan spending up in the remaining months of the year will enable India Inc to start investing again in 2015-16. Banks also need quick recapitalisation so that they can restart the lending cycle by April next year. The Modi government needs to hasten bank recapitalisation, including by allowing some of them to lower government holdings below 51 percent.

Right now, as borrowers deleverage, credit demand is drying up. Around mid-October, bank deposits were growing faster year-on-year (at 12.6 percent) than credit (11.1 percent). A year ago, it was just the opposite: credit was growing at 16.3 percent, and deposits at 14.2 percent. No wonder, banks are now cutting costs by lowering deposit rates.

Industrial revival is months away. India Inc needs to pare down its debt before it can invest again. The debt was accumulated recklessly during the go-go years of the UPA, when 9-10 percent growth was seen as our birth-right. they are paying for their irrational exuberance.

PS: In a balance-sheet slowdown, cutting interest rates is not going to revive investment sentiment immediately when people are trying to cut down on debt itself.