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Economic recovery key to limiting Indian banks' loan losses: Fitch

Fitch says the one-time restructuring exercise of loans could leave the sector saddled with a high bad-loan burden over the next few years if restructured loans do not perform according to agreed milestones

Indian banks face a tough operating environment in the near term as stressed loans and write-offs increase as a result of the economic fallout from the coronavirus pandemic, Fitch Ratings said on Tuesday.

But a swift economic recovery will be critical to limiting loan losses in what is likely to be a protracted period of weakness in the asset-quality cycle, it added.

Banks have been permitted by the Reserve Bank of India (RBI) to undertake a one-time restructuring exercise of loans affected by the Covid-19 pandemic which will provide relief in terms of bad loan recognition and provisioning.

However, Fitch said , the exercise could leave the sector saddled with a high bad-loan burden over the next few years if restructured loans do not perform according to agreed milestones.

Central bank data shows that Indian banks wrote off nearly 85 billion dollars over FY14 to FY19 of which state-owned banks contributed nearly 80%. The economic stress this time around is set to be deeper and more broad-based which could make restructuring more challenging.

Execution risk remains high, notwithstanding the safeguards built in by RBI in terms of tighter timelines, penal provisioning and more monitoring by the expert committee of loans beyond 1,500 crore.

However, timelines are short since banks need to identify and agree upon a resolution plan by December including small retail loans and loans to micro-enterprises and SMEs which will sit outside the committee's purview.

The authorities expect banks to implement resolution plans by June 2021. The relatively short timeline will add to implementation difficulties, particularly given that bankruptcy courts are not admitting fresh cases until December -- a deadline that Fitch said will be further extended.

Indian banks have a chequered record on the recovery and resolution of stressed loans, which reinforces our conservative expectations about the process, it added.

Fitch said the capital injection of 2.7 billion dollars for state banks proposed by Indian authorities in late September but not yet implemented appears inadequate in the context of the asset-quality challenges expected over the next 12 to 24 months.

"Without adequate capital, state banks may be forced to curtail lending growth, allowing private banks to gain market share in the medium term."

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