If there is one big miss in the Budget 2017 announced by Finance Minister Arun Jaitley on Wednesday, it is the way he handled the banking sector. The Rs 10,000 crore set aside for state-run banks this year is far too inadequate to repair their cracked balance sheets, help them meet the mandatory minimum capital requirements under an advanced capital framework and equip them to finance the growth of an economy as and when demand recovery happens.
A Rs 10,000 crore capital infusion is no additional fund, but only part of the ongoing plan under which government will infuse Rs 70,000 crore in state-run banks over a period of four years. Considering the kind of stressed assets in the banking sector, which now constitute over 12 percent of the total loans given by banks (bad loans and restructured loans combined), this is a pittance and the market was expecting much more. During his speech, Jaitley said the government will take care of the additional capital requirements of these banks, but past experience have shown such assurances have hardly materialized.
Government banks are painfully undercapitalised. At least 7 of them have less than 8.5 percent Tier-I capital adequacy and one bank less than 8 percent. The problem is worsened with their non-performing assets (NPAs) hitting the roof and the total chunk of stressed assets jumping to 12-13 percent of the total bank credit. Under the Indradhanush plan, of the Rs 1.8 lakh crore capital needed by banks under Basel-III, the government has offered to infuse Rs 70,000 crore over four years till 2018-19 and wants the government banks to fend for themselves for the remaining Rs 1.1 lakh crore from the market. This is not enough. Also, it is almost impossible for weak state-run banks to find takers. This compounds the problem. So far, there is not much progress on the banking reform front.
In the run up to the budget, there was a big clamour for reforms in state-run banks, not just capital, but also with respect to the government’s long-term roadmap to strengthen the banking system, which is dominated by the government. Some of the state-run banks are almost zombie banks, neck-deep in bad loans, and survive only with the aid of their owner—the government. These banks have proved their inefficiency time and again, also due to the policies of current and previous government using these entities as vehicles to roll out their populist agenda. There is no rationale why the government should continue to own these banks. It should have prepared a roadmap to exit the control in these banks and let private capital come in. Jaitley’s budget was totally silent on all these issues.
There are only two possible reasons why the FM restricted his budget for banking to planned capital infusion—either the Modi government hasn’t understood the banking sector problems well or the government simply hopes things would fall in place gradually in the sector without major government assistance. This is a misconception. Weak banks filled with bad loans are unlikely to evoke investor interest and find ways to fend for themselves. “It looks like the government wants the banks to improve efficiency and raise capital through internal resources," Reuters quoted an executive director at a mid-sized state-run bank in its report. "If today my bank is not in a position to have adequate core equity capital as per Basel III norms, what will I do?" he added. "I will not increase my advances, but I'll try to recover my non-performing assets," the report said.
The government’s failure to address the banking sector problems will make the economy pay a high cost since a healthy banking system is a necessary prerequisite for any aspiring economy. When private sector investments are weak and a fiscally constrained government is struggling to ramp up spending, the question is who will fund the expected economic growth. As it is, bank lending to industries are at record lows since banks are struggling to manage their unhealthy balance sheets. The recent demonetisation drive announced by PM Modi on 8 November 2016, has added to the pain of public sector banks since the entire staff strength was put on the job of currency exchange management for weeks, which might have impacted their business activities. With bank operations hit for over two months and mounting NPAs, public sector banks are even thinking of skipping their dividend payments to government this fiscal year.
Beyond the rhetoric, the government should have taken swift steps to strengthen the banking sector. By largely ignoring it, Jaitley has just made the PSU banks’ life a lot harder. This is a big miss in the budget and the economy will have to pay a price.
Published Date: Feb 02, 2017 11:35 am | Updated Date: Feb 03, 2017 11:47 am