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Future perfect, present tense for Indian banking

(From left) C.V.R. Rajendran, MD & CEO, Catholic Syrian Bank; B.Sriram, MD, State Bank of India (now, MD & CEO of IDBI Bank Ltd); Tamal Bandyopadhyay, consulting editor, Mint; Debashish Mukherjee, executive director of Canara Bank; and Parthasarathi Mukherjee, MD & CEO, Lakshmi Vilas Bank. Photo: Jithendra M./MintPremium
(From left) C.V.R. Rajendran, MD & CEO, Catholic Syrian Bank; B.Sriram, MD, State Bank of India (now, MD & CEO of IDBI Bank Ltd); Tamal Bandyopadhyay, consulting editor, Mint; Debashish Mukherjee, executive director of Canara Bank; and Parthasarathi Mukherjee, MD & CEO, Lakshmi Vilas Bank. Photo: Jithendra M./Mint

Panellists at the Mint South India Banking Conclave discuss causes that led to the pile-up of bad loans and steps needed to strengthen the system

Mumbai: India’s banking sector is facing the worst crisis of confidence. First there was the $2 billion loan fraud at Punjab National Bank (PNB), then the alleged irregularities at ICICI Bank, followed by the arrest of the Bank of Maharashtra chief for his involvement in an alleged loan scam. And rightly so, the banking sector is in a state of “future perfect, present tense" as the title of this year’s Mint South India Banking Conclave suggests. In this context, a panel of top banking executives including B. Sriram, managing director and chief executive officer (MD & CEO) of IDBI Bank, C.V.R. Rajendran, MD & CEO of Catholic Syrian Bank, Parthasarathi Mukherjee, MD of Lakshmi Vilas Bank, and Debashish Mukherjee, executive director (ED) of Canara Bank, shared their views on the current state of banking. The panel was moderated by Tamal Bandopadhyay, consulting editor, Mint. Edited excerpts:

We presume that with government support, the public sector banking industry will get back on its feet but the current scenario is not a happy one. How did we get into this mess?

Rajendran: Credit goes to public sector banks for having contributed so much to infrastructure. But at that time, we didn’t have an understanding of the risk in the infrastructure itself. If you look at the balance sheet leverage at the corporate level, it was very high. Initially they talked about 35-75, then it became 20-80, then 10-90 which means 10% was promoter’s contribution and 90% is from banks. None of the promoters have ever brought in the margin. For any infrastructure project, initially they brought in some money. Banks then released the money, which led to round tripping which supported the promoter’s contribution. The promoter never had skin in the game. The entire money involved in bad loans is the bank’s money. Margin money has never been brought by the promoters. Promoters never had the capacity to bring in that margin also. Promoters have become rich but companies have become poorer. Banks have become poorer. They could not catch the promoter. And bankers never insisted on personal guarantee.

The other issue was that risk was not priced properly. When there is excess liquidity, risk is not priced properly. As a result, we don’t have the capacity to support the write-offs which are happening today. The pricing was so low that it never covered the risk involved. Rephasement never took into account viability of the projects. Rephasement was only a postponement of the problem. I have not seen a single rephased account which has performed subsequently. All the rephasement is postponing the problem. Asset reconstruction company (ARC) is another route to postponing the problem. None of the ARCs have ever returned the money to banks so far. ARCs have their own problem and it will come and haunt us later.

Why have private sector banks got into a big bad assets mess? Is it misreading the economic trends or is it that the risk management systems have been in shambles? Or is it greed for balancesheet growth?

Parthasarathy: At times risk group’s views have been suppressed in credit decisions. That could have resulted in some of the problems. We did not anticipate a lot of the policy hiccups that we saw over the last few years. There are many instances where the business plans were not properly worked out and banks didn’t have enough expertise in handling some of these. Finally it’s a question of matching your risk appetite with your capital availability. We did not focus on that. We always thought capital would be available at the appropriate time.

Debashish: Those were the times when infrastructure financing became the norm and all the banks started funding infra without properly understanding the nuances of that. Most infrastructure companies belonged to South India and they were successful EPC contractors, who graduated into handling of BOT projects. The bankers thought that since they have a success record of EPC contract, they will have enough experience of project management. But the thing which bankers missed out was their expertise to bring in capital. Certain new concepts like the concept of multiple leveraging emerged where the bankers funded the holding company and SPV. That was one of the biggest mistakes bankers made. There were many things that bankers should have kept in mind.

In power projects, there were issues of power purchase agreement (PPA). Bankers thought that it was beneficial if the project does not have long-term PPAs. At that time bankers were bullish on short terms PPAs. Now many of these companies have gone bad because they don’t have PPAs. There were certain issues which bankers couldn’t anticipate. These were coal block de-allocation, the telecom issue, the mining issue which affected infrastructure project mostly. These were certain pitfalls which bankers couldn’t anticipate with their expertise.

How do we make the future perfect to make the banking system stronger?

Sriram: For the future, we need to have strong banks. To see how well capitalized it is and how liquid is the bank. Capital is a big issue for the bank. In the past there has been a lot of focus on liability because of KYC, money laundering, capital. There has not been a great focus on assets side. It’s time to fix the right side in a much more calibrated way than the left side. On the right hand side, the biggest issue is the risk and proactively we have to be ahead of the curve in terms of fixing the risk. The second is investment in technology across banks has to be very high. Much more than it is done today. The last mile in an interoperable environment if weak, the whole system fails. A lot of work has to be done so that we get data seamlessly online for future.

Third element is HR which is extremely important. There are a lot of limitations in terms of recruitment, not getting the right people and succession plan. We cannot have banks running without heads even for a day. There has to be a focus on consolidation or rationalising of PSU banks.

Thinking has to be whether we require so many banks doing the same job. How well we can collaborate between banks. Whether two banks have to merge together to become a large bank. Whether two banks can come out of one bank and cross sell. Technology can continue for a year and merge it. For future, small banks are a risk and as the economy turns around, the position of banks become better, most of the learnings will be gone.

Parthasarathi: Max recruitment in banks will be in areas like compliance, risk, operations and audit. The entire focus will be changed completely. The other thing is technology. Because capital is going to be scarce, we need to show adequate respect for capital and try to reduce cost.

In every part of activity, there will be increased use of technology. Banks will soon become IT companies. Technology will drive banking. More banks are realizing that they are not sellers of products, but providing solution to customers.

Rajendran: Next 2-3 years is going to be challenging. Lot of pain is still there in the system. SRs will come back and haunt us. Once balancesheet clean-up is over and provided for. If you continue to grow, there is tremendous amount of potential in the market. Decision making mechanism has come to a standstill now. If you continue to grow the balancesheet in the right way, we will have the capacity to absorb losses.

If you are afraid of taking decisions and playing safe, future is not perfect at all. We are seeing green shoots. We have the lowest credit to GDP ratio in the world. So there’s a tremendous amount of opportunity to grow credit. Private sector banks are growing. PSU banks which hold 70% market share of the banking system are losing market share because decision making has come to a standstill.

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