Banking bad

S&P's warning is a reminder that India's bad loans need some quick policy action.

Credit rating firm Standard & Poor's warning that Asia could turn out to be the world's next hot spot when it comes to a banking crisis is alarming, but if push comes to shove, the Chinese government — and it is China that S&P is really talking about — has enough money to recapitalise the banking sector. While S&P sees significant risks of bank loans turning into NPAs in India, it's comforting that various stress tests done by the RBI suggest that the problem isn't anywhere near spiralling out of control. That said, there is little doubt that there has been a dramatic increase in the number of loans coming up for recasting at the corporate debt restructuring (CDR) cell.

Nor does it look like these recasts are going to slow down anytime soon since, as a Credit Suisse report points out, 10 top Indian groups, which account for 13 per cent of the loans from the banking sector, double that five years ago, have a very low "interest cover" — that's their pre-interest and pre-tax earnings as a ratio of their interest obligations — and the number is falling. Which is why, even as banks restructure loans, they need to have some more serious back-up plans.

One plan under discussion is to get promoters to give up a significant share of their equity so that, in case the loans are still not repaid, the promoters can be removed and the company can quickly be resold. Of course, banks writing this into contracts and being able to enforce them are two different things. As the Kingfisher example shows, recalcitrant borrowers find it possible to get relief from courts. A better idea would be to transfer the shares to the banks before the CDR and, if payments are made on time, the banks can agree to transfer the rights back to the promoters. Given the high degree of poor loans concentrated in some industrial houses, the RBI would also do well to revise downwards the maximum loans that banks can give to companies owned by the same promoter group.

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