Last week the government announced a capital infusion of Rs3,800 crore into three public sector banks—Central Bank of India, UCO Bank and Vijaya Bank. The Mumbai-based Central Bank will receive Rs1,400 crore and UCO Bank and Vijaya Bank Rs1,200 crore each, in two phases. The government plans to pump in Rs20,000 crore into state-owned banks, which account for about 70% of banking assets, by fiscal year 2010.
Does this mean state-run banks are in bad shape and they need a government bailout to stay afloat? Certainly not. Fresh capital is being pumped in to help banks shore up their capital adequacy ratio (CAR), the ratio of capital to risk-weighted assets, which is already fairly high. Going by Reserve Bank of India (RBI) norms, Indian banks need to have 9% CAR, a measure of the banking industry’s health. Simply put, for every Rs100 loan they disburse, they need to maintain a capital of Rs9. All Indian banks have at least 9% CAR, but the government now wants them to have 12%.
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More capital will help them raise their CAR and they will also be able to expand their loan assets. Credit growth in the Indian banking system has dropped to around 19% year-on-year, from about 30%, even as other sources of funds for corporations such as equity market, overseas borrowings and foreign currency bonds have dried up.
For the quarter ended December, Central Bank’s CAR was 10.02% while UCO Bank had 11.62% and Vijaya Bank, 11.41%. Following the fund infusion, all three will have at least 12% CAR.
The Indian banking landscape is very different from the US, UK and the rest of Europe where governments are spending billions of dollars to recapitalize banks. A major part of the banking system in these countries now is being controlled by the government. Bailout as a concept is not new for the Indian financial system, but the magnitude of this exercise, carried out over a decade now, fades into insignificance compared with what we are seeing today in other parts of the globe.
Even after the proposed Rs20,000 crore recapitalization, overall, the money spent on ringfencing the financial sector from the current global meltdown and past local crises is around Rs66,700 crore—about 12% of India’s gross domestic product or GDP. Japan and some of the Latin American nations in the past had spent as much as 100% or even more of their GDP in devising financial sector bailout packages. Now the US, and UK and other European nations are spending a huge amount of money to keep their banks alive.
Till October, collectively, governments of these countries have given guarantees worth about £3 trillion (Rs210.15 trillion); injected capital to the tune of £400 billion; and purchased loan assets of a similar size. Since then, the package has swelled further.
More capital: The Reserve Bank of India. Going by RBI norms, banks must have 9% capital adequacy ratio, the ratio of capital to risk-weighted assets, but the government wants them to strengthen this. Harikrishna Katraggada / Mint
The Indian government started recapitalizing state-run banks in the mid-1990s after the central bank introduced prudential norms such as CAR and asset classifications and forced banks to provide for stressed assets to clean up their balance sheets. For the fiscal year ending March, the average non-performing assets (NPAs) of Indian banking industry after provisions, or net NPAs, will be around 1% of their loan assets but in mid-1990s some of the banks had 20% or even more net NPAs. At least one of them, Chennai-based Indian Bank, had its entire net worth—equity and reserves—wiped out by huge provisions needed to clean up its balance sheet. No wonder then that Indian Bank received the maximum capital from the government— Rs4,565 crore, in phases, between the late 1990s and early this century. Kolkata-based UCO Bank, the second biggest beneficiary, has received about half what Indian Bank had got, Rs2,257 crore (this does not include the latest capital infusion).
The government has so far pumped at least Rs22,500 crore into the banking system, excluding the latest package. It has got back about 40% of this amount from these banks in form of dividends. In some cases, in fact, the dividend income is far more than what the government spent to keep them in good shape. For instance, from Corporation Bank it has received at least Rs450 crore as dividend after pumping in Rs80 crore. Similarly, it has earned Rs888 crore from Bank of Baroda, and spent Rs182 crore. Besides, a few banks have returned close to Rs700 crore worth of capital to the government.
Incidentally, state-run banks are not the only beneficiaries of the government’s largesse. It has stood by the financial institutions as well as the country’s oldest mutual fund, the former Unit Trust of India (UTI), that was crumbling under the burden of assured return schemes. UTI alone received at least Rs18,000 crore of government support in phases to bridge the gap between the net asset value and the promised returns on mutual fund units and protect millions of its investors.
The government has also spent at least Rs4,000 crore in lending strength to financial institutions such as Industrial Development Bank of India (the former avatar of IDBI Bank Ltd), Exim Bank of India, Small Industries Development Bank of India and now defunct Industrial Investment Bank of India.
No Indian bank today has any problem in terms of capital and even liquidity. What are the lessons from the global financial meltdown? Should RBI continue to keep the doors closed and deny foreign banks larger play in the Indian banking space? Should the government not raise the foreign direct investment limit in the insurance sector? How many years should it take to make the rupee fully convertible? We may get answers to some of these critical questions at Mint’s Clarity Through Debate event in Mumbai on Monday featuring top bankers.
Tamal Bandyopadhyay keeps a close eye on all things banking from his perch as the Mumbai bureau chief of Mint. Please email comments to firstname.lastname@example.org