Mumbai: Deteriorating balance sheets of corporates and banks in India are undermining stability and policymakers should give priority to cleaning-up banks’ books and reducing the debt overhang among companies, said Jose Vinals, the financial counselor of the International Monetary Fund’s financial (IMF).

“In addition to keeping inflation under control and continuing fiscal consolidation, it is very important that priority is given to efforts to clean up public sector bank balance sheets and to tackle also the corporate debt overhang," said Vinals addressing officials of the Reserve Bank of India and other economists at an event hosted by the central bank.

In terms of fundamentals, among emerging market economies India stands strong, Vinals said adding that the country’s growth would continue to remain robust in the coming years. The fund has forecasted India’s growth at 7.5% for fiscal 2017.

However, what undermines the country’s economic performance is the overhang of debt among corporates which has driven up stressed assets on banks’ books.

“Deteriorating corporate and banking health are exacerbated by the corporate-banking nexus and high levels of stressed loans, lingering questions whether banks classify these loans properly as NPLs (non-performing loans) undermines bank stability," said Vinals.

The debt servicing capacity of Indian companies has been declining. According to a 22 February report by Credit Suisse, the share of debt having interest coverage ratio (ICR) less than 1 increased to 41% in the December quarter. The deterioration in the ability of companies to pay debt has led to a sharp rise in bad loans at Indian banks over the last two years.

For the quarter ended 31 December 2015, 39 listed banks added an aggregate of 1 trillion to their bad loan stockpile, a 29% quarterly jump in deteriorated debt.

Vinals noted that the problem of a debt overhang among corporates is not restricted to India but is a problem of most emerging market economies.

“The spreads at which corporates have been able to issue in the market has been coming down even as their capacity to service has been also coming down," Vinals said.

Through a presentation, Vinals showed that corporate debt across countries has been going up with companies becoming increasingly leveraged and in turn making their countries vulnerable to financial instability.

“A quarter of this corporate debt is from countries that are commodity exporting countries," Vinals said. The sharp fall in commodity prices have hit these countries and their companies, he added.

In contrast, India has benefited from the sharp fall in commodity prices and fiscal revenues have been boosted owing to reduce subsidies. While this augurs well for macroeconomic environment, the country faces challenges from weakening corporate balance sheets, Vinals said.

Speaking on the global economy, Vinals warned of a further downward revision in forecasts of global economic growth by the IMF.

“Now we expect global economic recovery would be slightly slower than what we thought would be October 2015. It is very likely that by the time, we arrive at the spring meeting, there will be a downward revision of our forecasts," he said. His warnings echo those of the IMF chief Christine Lagarde who on 27 February said that absence of collective action from policymakers could impact economic growth.

“I will argue that esteemed policymakers need to adopt urgently more comprehensive and concerted policy action to strengthen growth and manage financial vulnerabilities," said Vinals.

In January, the IMF projected global economy to grow 3.4% in 2016 and 3.6% in 2017, having revised down its October forecast for both years by 0.2 percentage point. Growth in the global economy remains vulnerable owing to a slowdown in China’s growth, the volatility in financial markets and the vulnerabilities of emerging market economies, Vinals added.

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