According to the Reserve Bank of India [RBI], during the financial year 2016-17, credit growth plunged to a whopping six-decade low of 5.08 per cent as against 10.7 per cent in the previous year [as on March 31, 2017, banks’ outstanding credit was Rs. 7,501,000 crores – down from Rs. 7,881,000 crores as of April 1 2016]. This is the lowest since 1953-54 when it had inched up by a paltry 1.7 per cent.
Critics including former finance minister, P Chidambaram under UPA – dispensation cite low credit growth in support of their contention that the economy is not doing well. They have even used this to question high GDP [gross domestic product] growth data churned out by Modi – government viz. 7.1% during 2016-17 [for previous two years, this was 7.3% in 2014-15 and 7.6% in 2015-16]. The criticism is based on perverse reasoning.
First, slow growth in bank credit by itself is no indication of whether the economy is moving on alleged low growth trajectory. Growth inter alia is a function of capital deployed by businesses. The companies can raise capital either as equity [risk capital] or borrowings in diverse forms such as bank loans, debentures, external commercial borrowings [ECB], foreign currency convertible bonds [FCCBs] etc.
Historically, the capital has come mostly from banks who act as intermediaries to channelize savings of general public deployed in fixed deposits [FDs] of varying maturity besides substantial amount lying in savings account. The public also invests a portion of its savings in equity shares, company deposits, debentures etc though, this is less than the amount routed via banks.
During 2016-17, while there was a substantial compression in loans given by banks to the corporate sector, to some extent, this was made up by additional funds latter mobilized from surging bond market. Besides, there was substantial increase in inflow of foreign funds courtesy, liberalization in norms for foreign direct investment [FDI] and improvement in the ease of doing business.
That apart, the role of union government in pump priming investment especially in the infrastructure sector viz. highways, roads, rails, port, airport cannot be wished away. This boost was funded mostly by commensurate increase in budget allocation.
Quite clearly, the momentum of growth was sustained despite deceleration in banks credit as there were other factors propelling the juggernaut. Therefore, any inference that ‘growth would have decelerated because bank credit fell’ is fallacious. Even the decline in bank loans to corporate sector for now is good omen. This is a manifestation of a surgery going on within the system.
In the past, loans particularly big ticket [Rs 500 crores and above] were mostly given without conducting due diligence, assessing viability of projects and their ability to generate adequate cash to pay back. This was made possible in an environment of crony capitalism whereby industrialists and businessmen enjoying political patronage got access to bank funds under quid pro quo arrangement. Most of these loans have turned non-performing assets [NPAs]. The problem is more pronounced for public sector banks [PSBs].
According to rating agency ICRA, as on March 2017, gross NPAs were Rs 770,000 crores or 10 per cent of gross advances. This is expected to increase to Rs 850,000 crore 10.3 per cent by March, 2018 with upside risks in case of slower resolution of SDR [strategic debt restructuring] accounts, leading to higher slippages. The RBI and finance ministry are pulling all stops to resolve these leveraging the recent amendment in the Banking Regulation Act [BRA].
The resolution process initiated under the Insolvency and Bankruptcy Code [IBC] will result in substantial impairment of the capital. For top 12 accounts involving an exposure of Rs 400,000 crores [these have been taken up first], the extent of erosion will be about Rs 260,000 crores. The damage will get compounded as more accounts are taken up for resolution. But, there is a positive spin-off to this pain.
This has led to abandonment of ‘business-as-usual’ approach and brought about a metaphorical change in the way bank managements now look at lending. Henceforth, they will be forced to conduct due diligence and assess the projects strictly on merit [instead of relying on extraneous considerations]. This will substantially minimize the possibility of NPAs emerging in the future.
Already, one can see some green shoots as reflected in moderation of the fresh NPA generation rate. According to ICRA, on an annualized basis, this declined from 10.7 per cent during the fourth quarter of 2015-16 to 6.1 per cent during first quarter of 2016-17, 5.8 per cent in the second quarter of 2016-17 and further to 4.1 per cent during the third quarter of 2016-17.
Once the message goes out that access to funding will be available only for project/proposal ‘worth funding’ [one which can generate enough cash to pay back], only genuine promoters/companies will come forward for borrowing from the banks. This will help immensely in improving the quality of credit to the corporate sector.
Pertinently, this is happening at a time when the banks have seen an unprecedented surge in deposits [Rs.108,00,000 crore as of March 31, 2017 against Rs.96,68,000 crore on April 1, 2016 – up by 17%], courtesy demonetization [November 8, 2016] that forced hoarders of black money to disclose their un-accounted cash. Under the new paradigm, there would be more prudent utilization of these funds that lead to build-up of productive assets.
In short, Modi – government is making all out efforts to use the crisis triggered by high NPAs to bring about a fundamental transformation in the way banks are run. Together with consolidation of PSBs, an exercise that started with merger of subsidiaries of State Bank of India [SBI] with itself and is now gathering pace, this should help in building a solid foundation for putting India on a sustainable double-digit growth trajectory.
Meanwhile, it is important that the public does not allow itself to be misled by malicious propaganda based on distorted interpretation of facts and Team Modi keeps moving on the set course.