The Telegraph
Since 1st March, 1999
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- Only the resurgence of a vibrant credit culture among bankers will revive banking

The author is former governor, Reserve Bank of India

The annual reports of the Reserve Bank of India on the trend and progress of banking are eagerly looked forward to not only for the light they throw on the health of the banking industry, but also for the information they give regarding the state of the economy. The latest report on trend and progress of banking keeps up the excellent tradition of its predecessors.

It shows that overall, credit disbursements by banks increased by 15.3 per cent in the year under review compared to 17.3 per cent in the previous year. Industrial credit decreased from 46.8 per cent in 2000-01 to 42.9 per cent in 2001-02. Seven industries out of a total of 26 listed showed a decline in credit disbursed. Important among stragglers were cotton textiles and petroleum — telling indications of growing slackness in the industrial economy.

Bankers faced by a declining demand for credit from industry have turned their attention to loans for housing and credit to individuals. This has led to an impressive increase in housing loans from 3.8 per cent of total loans to 11.6 per cent, thanks once again to tax concessions introduced with a view to boosting housing which are under threat now from Vijay Kelkar’s task force. The growth in consumable durable financing by banks has also led to impressive growth in the demand for a distressed sector of industry. Personal loans, mostly in this sector, grew from 4.9 per cent to 10 per cent.

Banks have increased their lending to governments in the form of investment in gilt-edged securities. The report shows the inexorable growth in banks’ holding of government securities, which today stand at 36.5 per cent of their net demand and time liabilities, against a statutory liquidity ratio of 25 per cent. Banks prefer to lend to the government for two reasons — first, a lack of alternative channels for lending and second, the fact that their investment in gilts is rated as risk free. Incidentally, declining gilt yields to maturity have a logical upward impact on the market value of gilts held by banks and traded in the market. This has also contributed to increased bank profitability in the year to which I now turn.

One of the interesting statistics that the report unveils is the profit figure of banks. Scheduled commercial banks — private and public sector together — recorded an increase in profits by the order of 80.7 per cent in the year under review. In particular, public sector banks registered a hefty increase of net profits of 92.3 per cent over the previous year. Public sector banks showed a total net profit of Rs 4,850 crore in the year compared to Rs 2,095 crore in 2000-01. The profit of the State Bank of India group stood at Rs 3,949 crore. Thus, the profitability of the nationalized banking group was an impressive figure of Rs 8,000 crore during 2001-02. The performance is truly creditable.

While a considerable part of the growth in profits is due to the rise in price of gilts consequent on reduction in interest rate, it has to be recognized that there have also been substantial cost reduction measures. Incidentally, advocates of reduction of government stake in banks need to reflect on the possible adverse reactions when political leaders recognize that here is a rich nest-egg under threat of divestment. Advocates of dilution of government stake in profit-earning bank groups need to be careful.

The report analyses the problem of priority sector lending with special reference to agriculture. Priority sector advances stand at a level of 43.1 per cent of net bank credit given by public sector banks. Of this, agriculture accounts for 15.7 per cent. Private sector banks also have lent nearly 40.9 per cent of their advances under priority sector. Foreign banks have to achieve a target of 34.2 per cent of net bank credit for priority sector as a whole with 17.7 per cent for exports.

The RBI continues to wrestle with problems of increasing credit flow to agriculture. The cooperative credit institutions are still the Achilles’ heel of the Indian financial system. Politicization and consequent poor governance have added to the problems of management of the Indian cooperative system. In this context, I had occasion to refer in my comments earlier to the successful model established in the rural sector by V. Kurien in respect of credit of milk cooperatives. By combining marketing with provision of credit, Kurien has reduced the problems of poor recoveries.

Only such a radical transformation of the rural cooperative credit structure by integrating marketing with provision of credit will enable the Indian financial system restore agricultural credit to health. However, established orthodoxies, nurtured by the Indian cooperative sector as well as by the regulators, do not lend support to such a move.

While the report stresses the need to go ahead with legal reforms, it emphasizes, in particular, the lacunae in procedural follow-up in regard to corporate debt restructuring. It refers to reports of working groups which have gone into problems of corporate debt restructuring. Corporate debt restructuring is needed to alleviate the problem of borrowers, burdened by heavy debt. Under the present procedures of corporate debt restructuring, in the absence of strong leadership, restructuring proposals can be delayed by objections by even one or two dissenting consortium members. The result is that corporate debt restructuring gets deferred and the facilities even in respect of non-fund limits, such as issuance of letters of credit get denied and the corporate restructuring process continues to remain sick and soon becomes a non-performing asset. The sooner the central bank speeds up the process of restructuring the corporate debt itself, the better for both corporate health and the financial health of banks.

This takes me to the issue of non-performing assets in the Indian banking sector. Non-performing assets continue to be on the rise in absolute terms. Gross NPAs as on March 31, 2002 stood at Rs 70,904 crore, compared to Rs 63,741 crore at the end of the previous year. If these NPAs are to be written off, bankers will ultimately come to the treasury for support. The device of asset reconstruction companies, which has been suggested by various authorities is to be set up under the provisions of the new Securitization Act, which has been recently passed. Relief will come to the bankers only if this act, which has been passed by Parliament, is implemented in its full force. There is substantial corporate resistance to the full implementation of the proposals and litigation is bound to block the progress of the Securitization Act. The progress of reduction of NPAs as a result of enforcement of the obligations contained in the act is clouded by doubts arising from the possibility of corporate litigation. While it is true that the absolute size of NPAs also has risen during the year, there has been a decline in the ratio of NPAs counted against assets. For SCBs as a whole, there is a marginal decrease from 2.5 per cent to 2.3 per cent, while in the case of PSBs, the decrease was from 2.7 per cent to 2.4 per cent. Foreign banks in India had a very low NPA ratio of 0.8 per cent reflecting the selective choice of customers.

While the RBI as a central bank has rightly concentrated on harmonizing India’s provisioning requirements with international norms, it has not so far been successful in legally enabling speedy recovery of loans. Risk has definitely to be guarded. But, it is also worth noting that total avoidance of risk-taking and good credit delivery are inconsistent. Bankers should be encouraged to take legitimate risks in lending. Blind aversion to risks in lending can lead to an atrophy of industrial growth. This is particularly true of lending to small industries. We need a return to the spirit of olden days when bankers were not only lenders but also guides and friends to their borrowers. While the RBI is right in emphasizing the need for risks and to counter lending practices that are too risky, it is also necessary to reintroduce a spirit of enterprise amongst bankers.

Unfortunately, the investigative pursuit of banking frauds in the Nineties by various public official agencies stifled whatever limited risk-taking there was in Indian banking. The RBI needs to reignite the spirit of legitimate risk-taking and positively reward those bankers who have shown initiative in turning NPAs into performing assets by discreet lending and corporate debt reconstruction at the right stage.

Banks will become venturesome, albeit with due care to propriety, if corporate enterprise in India has to revive. The progress and trend of banking in the coming years will depend very much on the reintroduction of the spirit of legitimate risk-taking and leadership amongst bankers. While the RBI has taken a number of steps to safeguard bankers from unnecessary pursuit of their bona fide errors, it needs to do lot more to restore confidence and initiative among bankers. The future progress of banking and Indian economy will depend on the resurgence of a vibrant credit culture among bankers, who should encourage and be mentors to industries and agriculture. The RBI should put on its developmental hat and take positive corrective action to nurture this spirit.

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