A day after the government named celebrated economist Raghuram Rajan as the next governor of the Reserve Bank of India (RBI) comes news which will likely point to one of the biggest challenges Rajan will face as the next boss of Mint Road: the health of the Indian banking sector. Faltering economic growth and the consequently deteriorating asset quality of Indian banks will have a telling effect on the banks’ performance, ratings major Standard & Poor’s reckons in a report put out on 7 August.
In fact, S&P says the infrastructure (power and road), metals and mining, construction, and capital goods sectors are particularly at risk owing to the slow GDP growth. This will clearly have an impact on the health of banks.
The report made it clear that the Indian banking sector is unlikely to recover in the next 18-24 months, thanks to lower economic growth and its obvious impact on corporate performance.
The report, titled “Slack Economic Growth Dents Recovery Prospects for Indian Bank.”, projects a rather dismal scenario for the banks over the next two years. S&P has revised India’s GDP forecast to 5.5 percent from the earlier 6 percent.
“We base our view on slow economic growth that is constraining the corporate sector, the chief recipient of banking credit,” said S&P in a statement.
“Deteriorating asset quality and earnings are likely to constrain the credit profiles of Indian banks over the next two years," said Standard & Poor’s credit analyst Geeta Chugh.
Chugh says S&P no longer expected the corporate sector to mildly recover in fiscal 2014, given slower-than-expected GDP growth, heightened currency volatility, and high interest rates.
The report expects the banking sector's nonperforming loan (NPL) ratio to surge to 3.9 percent of total loans in fiscal 2014 and to a much higher 4.4 percent in fiscal 2015, compared with 3.4 percent in fiscal 2013. The return on assets should also remain depressed, at about 0.9percent, the report says.
Indian banks, S&P points out, have restructured 5.7 percent of their aggregate loan balances as of March 31, 2013. “The Reserve Bank of India allows banks to exclude these loans from their reported NPLs until fiscal 2015. We expect restructuring to remain high in the next two years because of the weak economy and the regulatory allowance,” the ratings major says.
S&P’s credit analyst Mehul Sukkawala adds: “The corporate sector's weak performance, combined with high interest rates and a weak rupee, is likely to weaken debt servicing for these companies.”