Home / Opinion / Indian banking’s Houdini act

As March quarter earnings from banks roll in, you can’t help but think that the country’s top lenders are nothing short of magicians. For years, they managed to make bad loans disappear into the depths of their balance sheets, presenting a picture of a banking sector where all was well. If anyone in the audience (regulators, analysts or commentators) suspected that this was merely an illusion, it appears they looked the other way, choosing instead, to enjoy the show.

Well, the show is now officially over.

In the light of day (or, in this case, in the light of the asset quality review conducted by the Reserve Bank of India), it is now clear that banks were putting on an act.

Twenty-nine of the 40 listed banks have reported earnings so far. The comparison between the numbers reported by banks at the end of the September quarter and at the end of the March quarter is quite stark. Since the hit from the Reserve Bank’s asset quality review was taken in the December and March quarters, this comparison broadly captures the extent of under-reporting and under-provisioning.

Under-reporting of bad loans

The gross bad loans for these 29 banks have risen by nearly 69% between the September and March quarters. Even if one accounts for some organic growth in non-performing assets (NPAs) over these two quarters, it can safely be said that bad loans were under-reported by at least 50% before the asset quality review. Of these 29 banks, public sector banks have seen a 73% increase in gross NPAs over these two quarters, while private sector banks have seen a 45% increase. So the track record of public sector banks has been slightly worse, but they were clearly not the only offenders. As a percentage of total loans, the highest gross NPA ratio in the September quarter was reported by United Bank of India (8.9%) followed by UCO Bank (8.51%). Six months later, UCO Bank has the highest gross NPA ratio of over 15% and United Bank has more than 13% of its total loans classified as bad.

Gap in provisions

The jump in provisions between these two quarters has been even sharper, probably because a lot of the accounts which were classified as NPAs were large borrowers. Provisions across these 29 banks have gone up from 13,759 crore in September to more than 45,000 crore now. These increased provisions don’t mean that balance sheets are stronger now. Except in a few cases, the provision coverage ratio of banks has actually declined rather than improved. Of the public sector banks that have reported results, only two have a provision coverage of more than 60%. Private banks are better off in that respect and have more money set aside to cover bad loans.

Who were the worst offenders?

While it is now clear that under-reporting of bad loans was a systemic problem, it is also equally clear that some banks were hiding more than others. Punjab National Bank (PNB) is the worst offender, going by the numbers. Its gross bad loans more than doubled between the September and March quarters. The bank now has more than 55,000 crore in bad loans (12.9% of total loans) with the likelihood of more to come. PNB has had to bump up provisions from 1,882 crore in the September quarter to 10,485 crore in the March quarter. The bank now has the dubious distinction of reporting the biggest loss in Indian banking history at 5,367 crore.

Among the large private banks, ICICI Bank Ltd has seen the sharpest jump in gross NPAs by 65%. It also has the highest gross NPA ratio among the private sector lenders at 5.8%

What next?

Lack of transparency and accountability is what got us into this mess, and to ensure this doesn’t happen again, both must be addressed. While it’s true that circumstances out of the control of bankers (such as the commodity price fall or the stalling of infrastructure projects) may have led to the increase in bad loans, bankers must not be absolved of all responsibility. They allowed bad loans to build up and didn’t come clean until forced to. It is up to individual bank shareholders to hold the executive accountable but the least the regulator can do is insist on increased disclosures. For instance, the amount of loans classified in the special mention accounts (SMA) category should be disclosed.

The regulator must also take part of the blame. It’s tough to believe that they didn’t know what was going on and that nothing showed up in the annual RBI inspections. As was argued in Mint on 15 February ( ), the RBI needs to conduct rigorous stress tests on individual banks and make the results of these stress tests public. An over-protective regulator will do more damage than good.

Finally, the government, a majority shareholder in all public sector banks, has to devise a way to hold public sector bank chiefs accountable. Longer tenures may be one way of doing this. At the same time, government interference in lending decisions must come to an end.

Ira Dugal is deputy managing editor, Mint

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