Raghuram Rajan says recapitalization of banks essential

Chennai/Mumbai: Government capital support for bad-loan ridden public sector banks is essential even if it means trimming budgetary outlays to other sectors, former Reserve Bank of India (RBI) governor Raghuram Rajan said in an interview on Tuesday.

Rajan’s views assume significance in the backdrop of arguments that mergers of some state-owned lenders may be a more preferable option for recapitalization and stressed asset resolution.

“I think it’s important to recognize that banks do need capital and you need to put it aside and if it means that there are other resources allocations that should be reduced, so be it. I mean, that’s the cost of staying within the budget. This is not painless,” said Rajan, who has just published his latest book, I Do What I Do.

State-owned banks account for most of the Rs10 trillion of stressed assets choking India’s banking system. The pile-up of stressed assets has weakened the capital base of many public sector banks, impeding their ability to lend.

According to an estimate by Moody’s Investors Service, 11 big state-owned banks will require additional capital of Rs70,000-95,000 crore, as against the Rs20,000 crore budgeted until March 2019.

Last month, the Union cabinet gave its in-principle approval to public sector bank mergers. A panel of ministers led by finance minister Arun Jaitley will consider and oversee mergers among the country’s 21 state-run banks.

Rajan said that a clean-up of bank balance sheets and capital support, along with a revival of stalled private sector investment, will be key to supporting India’s future economic growth.

An ecosystem for resolving non-performing assets (NPAs) is now in place with the passage of the Insolvency and Bankruptcy Code, the absence of which had impeded RBI’s ability to tackle the problem, Rajan said.

“I think what we had missing was a bankruptcy code because any kind of restructuring happens with the ultimate threat that if it doesn’t happen in an appropriate way, the bankruptcy code will be invoked,” he said.

“So I think what is really good about the current situation is we have a bankruptcy code in place. We have to make sure that the functioning of the NCLT (National Company Law Tribunal) and so on is unhampered, and that it goes to its logical conclusion and the number of appeals to that process is limited so that it doesn’t become an endless circle of appeals,” he added.

It was during Rajan’s tenure that India adopted a formal mandate to target consumer price inflation of 4%, plus or minus 2 percentage points. The monetary policy committee (MPC) tasked with the mandate started functioning after his departure.

Rajan did not comment on monetary policy, but cautioned against second-guessing the MPC’s decisions. The six-member panel has received criticism for over-estimating inflationary pressures and erring on the side of caution in lowering interest rates.

“... I think it’s important to let the committee do its job. And if you think the inflation framework is too tight, in five years or whatever that time interval is, you have the ability to change it,” Rajan said. “But I think rather than continuously second-guessing what this committee does, based on the latest inflation reading and the latest growth readings, let it do its job.”