Will RBI’s prompt corrective action resurrect banks or incapacitate them?
PCA is seen as an intensive care unit where sick banks with tattered balance sheets are nursed through various restrictions to fortify them before they restart operations as normal banks
Eleven public sector banks, more sick than the rest, are already comatose under the Reserve Bank of India’s (RBI’s) prompt corrective action (PCA) mechanism. RBI’s Financial Stability Report suggests that it will take some time before these banks are taken off the ventilator.
Indeed, things are likely to get worse. The central bank has said that it expects the capital adequacy ratio of the 11 banks under PCA to drop to 6.5% by the end of the current fiscal year from 10.8% at the end of 2017-18. Of course, this assumes the absence of any capital infusion by the government.
In other words, the capital position of these banks is expected to weaken even further and money from the government will go into filling the big hole in capital rather than be used for growth.
PCA is seen as an intensive care unit where sick banks with tattered balance sheets are nursed through various restrictions to fortify them before they restart operations as normal banks. But from the looks of it, the intensive care is either not working or will take a long time to work. And RBI is perfectly aware of this.
The report also states that gross bad loans of these banks will only worsen, rising to 22.3% of their loan book from the current 21%.
The track record of these banks ever since they were put under PCA is proof enough that their return to normalcy is no easy task.
This column had examined two banks, namely United Bank of India and Indian Overseas Bank that have been under PCA for more than two years. These two banks have hardly shown improvement in their metrics.
The reason is simple. The PCA scheme of RBI puts various restrictions on activities generating income but there is hardly any reduction on the expenses side. With operating expenses remaining largely the same and income falling every quarter, it is very difficult for these banks’ financial performance to improve.
RBI explains PCA as follows: “The entire thrust of the current PCA framework is to prevent further capital erosion and more importantly, to strengthen them to the point of resilience so that they can, as soon as possible restart their normal operations.”
It now seems that these banks will have to go through a prolonged period of pain before they can be fit enough to restart normal operations. A lot will depend on how much money the government is ready to pour into them to make these zombie banks turn phoenixes and rise from their own ashes.
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