Industry
Mint Explainer: What is behind the improving asset quality of Indian banks?
Summary
- This improvement has been credited to more stringent lending standards, the impact of India’s insolvency law, and a sense of caution among corporate borrowers following high-profile losses of company control due to defaults
Indian banks have significantly reduced their non-performing assets (NPAs) from the peak seen five years ago, led by a mix of improved borrower selection, more effective debt recovery, and heightened debt awareness among large borrowers. Mint examines the current situation of NPAs at banks and its sustainability.
What is the state of asset quality in banks?
Indian banks reported the lowest gross NPA ratio in a decade at 3.9% for fiscal year 2023, with a sustained decline observed over subsequent quarters. According to Kotak Institutional Equities, state-owned banks saw a gross NPA ratio of 4.2% in the quarter ended September, a decrease from 4.6% in the first quarter of the fiscal year and 5% a year ago.
For private sector banks, gross bad loans as a percentage of total loans stood at 2% as on 30 September, lower than 2.2% each in Q1 FY24 and for the year ended 31 March. Analysts at Kotak Institutional Equities have said that incremental stress at banks is low and a majority of the stressed restructured loans have already slipped into the non-performing category. Slippages for frontline banks, it said, are near or even below pre-pandemic levels.
What has led to this improvement in asset quality?
The improvement in asset quality has been credited to more stringent lending standards, the impact of India’s insolvency legislation, and a new sense of caution among corporate borrowers following high-profile losses of company control due to defaults.
Large borrowers have reduced their debt levels, reflecting a greater concern over their debt obligations.
Banking regulations have introduced greater discipline among corporate borrowers, curbing the excessive borrowing that characterized the mid-2000s infrastructure boom. Banks have also been writing off bad loans from their balance sheets after making provision for potential losses. In a report published in December 2022, the Reserve Bank of India (RBI) had said that the decline in bad loans, particularly in public-sector banks, was largely due to loan write-offs.
Over the last five fiscal years (FY18-FY22), commercial banks have written off a total of ₹10 trillion, as per data released in the Lok Sabha. However, bank officials have emphasized that such write-offs are technical in nature and do not halt recovery attempts. Recovered funds are recorded as 'recovery from written-off accounts' in banks' financial statements.
What is the outlook on bad loans?
Experts do not see any major distress on the horizon for domestic banks, at least on the corporate side.
For instance, at India’s largest lender State Bank of India (SBI), incremental bad loans in the first six months of FY24 was down 5.34% year-on-year. According to analysts at Kotak Institutional Equities, the banking sector may experience low slippages and credit costs for some time. That said, Kotak said, it remains watchful about how the situation evolves.
Analysts at Motilal Oswal, in a note on 13 November, said that their discussion with banks suggests that stress in low-ticket personal loans is mainly due to overleveraging or income dislocation for customers, although banks in general except small finance banks have negligible exposure to these loans. However, the RBI on 16 November initiated steps to protect lenders against any potential distress emanating from the unsecured loan portfolios by raising the amount of capital each personal loan will consume, hoping to deter lenders against aggressively pushing such loans.
