The chatter around the health of the country’s state-owned banks is certainly not new. Over the past two years, policymakers, analysts and bankers themselves have all acknowledged that this is a problem that will need to be tackled eventually. Except ‘eventually’ is no longer an option. The problem is now at a stage where it must be tackled immediately.
At the risk of repetition, let’s first recap some of the issues.
Stressed assets on the books of state-owned banks were at 14% as of September 2015, dramatically higher than the 4.6% at private sector banks. These stressed assets include gross non-performing assets (NPAs) and restructured loans. It is possible that over the next few quarters, the reported gross NPAs will rise, given the pressure from the regulator to recognize bad assets as such. If gross NPAs rise, so will provisioning needs, which in turn will further weaken capital adequacy levels at these banks. In response, stocks of state-owned banks will fall further and their ability to raise equity will slide.
This scenario doesn’t even build in the possibility that another 1 trillion in loans to state-owned power distribution companies may have to be classified as bad loans. If that happens, the banking sector has an even larger problem at hand.
Sounds like a classic vicious cycle. One that needs to be broken. But how? The government, the majority shareholder in these banks, doesn’t have the money to spare. It is already struggling to keep to its fiscal deficit targets. An offer for sale (OFS) to reduce shareholding to 51% in banks where the government holds more than the minimum requirement is a bad idea at this stage. Demand for shares of state-owned banks is low and these issues could easily bomb. Tier 1 bonds are an option but not for the large quantum of funds needed.
Which is why the country’s smart bankers and policymakers need to come together to find an out-of-the-box solution.
Is a global sovereign bond an option?
Foreign investors have lapped up not only bonds issued by the Indian government domestically, but also dollar bonds issued by Indian firms in the overseas market. The relatively high yield offered by Indian issuers and the nervousness around China had pushed investors towards dollar bonds of domestic firms and that helped a number of firms raise affordable funds. Yes, volatility in global markets has tempered the mood but if calm returns, it may be worth considering something along the lines of a sovereign bond for bank recapitalisation. To be sure, you can’t raise the entire amount needed for bank recapitalisation through an instrument like that.
In a report released on Wednesday, rating agency ICRA pegged the capital needs for state-owned banks at 1.3 trillion (about $20 billion) between fiscal years 2016 and 2019. You can’t expect to raise that kind of money through a single bond issue. But hypothetically, even if you raise an upfront amount of about $5 billion, it may help shore up investor sentiment around these banks, which could then allow for equity capital raising as a second step.
Of course, the bigger picture on the country’s external indicators would need to be kept in mind before considering something like this. But it may be worth a thought. Keep in mind the 2013 experience, when the swap windows opened by the Reserve Bank of India (RBI) for non-resident deposits helped bring in $34 billion. In one shot, we managed to shore up reserves and turn the sentiment on the rupee.
Rechanneling savings from oil
Everyone agrees that the lower oil prices have been a big boon for the country. It’s also been a big relief for the government’s finances. In fact, some say that most of the fiscal consolidation seen has been driven by lower oil subsidies and the higher taxes on oil. Since lower oil prices look like they are here to stay for a little longer, can subsequent savings from oil be pooled and set aside for bank recapitalisation. The obvious problem here is that the government may be relying on these savings to meet its fiscal numbers and expecting it to prioritise banks over everything else (including infrastructure development) may be unrealistic.
There’s always divestment
This hardly qualifies as an out-of-the-box option but there is always the choice of divestment to raise resources. But you would need to go beyond the obvious candidates. Could you, for instance, consider an initial public offering (IPO) for India Post? No one has talked about it but it’s worth noting that the IPO of Japan Post in 2015 raised a good $12 billion. The Postal Savings Bank of China IPO, also concluded last year, raised $10 billion.
Each of these suggestions may not work for many reasons. But the point is that policymakers and bankers need to put their heads together and come up with a smart option to resolve an issue that can no longer be put on the backburner.
Ira Dugal is assistant managing editor, Mint.