Wednesday, April 9, 2014

Managing NPAs: Cure worse than the Disease

RBI started anew a failed initiative in an amplified form after a make-believe consultation document. Not all the perfumes of Arabia would clean the stench of INR 5trn. The SMA categorization for monitoring the stressed assets had its origin in 2002 itself.

But the moot question: is micromanagement going to be the solution that failed to impose a regulatory information system? The pressures on the senior Managers in attending the DLBCs, SLBCs and host of others would leave little time for the now introduced JLFs which in turn have to seek investors for stressed assets’ buy.

It is desirable that all accounts at different thresholds should be handled by a designated official for monitoring purposes and such number for the official should not exceed 25 for beyond Rs.500mn and 10 above this limit with responsibility for proper conduct and timely decisions on the account. Where the account requires internal committee decision for sanction, he shall convene the Committee and failure of this Committee to meet shall reach the CMD within less than 24 hours for resolution.

The sinking ship may get additional load for furthering the submersion with any upfront payment of cost of techno-economic feasibility study of restructuring. Instead, this can be done with the costs spread over the period of restructuring.

There is no need for further restructuring agreement or a binding commitment between the borrower and lender and the existing loan agreements shall be modified with one more clause added upon as a contingency clause or under Force Majeure.

The CDR process now announced has potential to extend to 210 days while the original loan may have been sanctioned within less than 30days of receipt of application!! What a regulatory wait for a borrower and lender to act upon irregular processes? Any CDR process in any segment cannot go beyond 60 days at worst and 30 days at best when alone the pressure would turn coal into a diamond. Since the borrower is known and the lender knows the movement of the account, the whole restructuring process with accountability fixed on either side should be capable of speeding up. I see the regulatory arbitrage in this timeline.

Imposing penalties will be opening new window for corruption unless they have transparent norms. In fact, a corresponding incentive in the restructuring process has potential for a careful CDR process


Credit origination has a significant contribution to the subsequent creation of NPAs. Dependence on systems has allowed permissiveness to the borrowers. The Directors of the Company Boards whose track records are taken for-granted lie at the core of the issue. The opinion on each individual director shall be part of the appraisal mechanism. The Director whose credit data is available now with the credit information companies, with default on any account shall be the first ground for fresh consideration of the proposal and also for seeking replacement of such Director before the credit proposal is considered. Next comes the question of the Management positioning and the CEO, CRO, CFO remuneration and perks having a bearing on operating costs. Third aspect relates to the industry environment which the banks are currently very efficiently doing till the first lap of credit-sanction. Post sanction, the environment should be on continuous inquest by the dedicated team at the Bank. There are outliers – pressures from external influences: could be from the Directors of the Board never on record, could be telephone calls from the Ministers – both State and Central – or from some other influential parties. They are like serpent under the grass. It never hisses but bites poisonously the sanctioning official. Now that this has largely been addressed to with a credit committee sanctioning the proposal, the teeth of the committee shall be protected by the CMD to insulate them from any consequence arising through rejection.

Loan Expos: The Banks those were chary of loan melas in the past now conduct by themselves without any political prodding and grant several home loans and other loans in retail segment in the Loan Expos. It is not possible for the most efficient institutional mechanism to complete due diligence process within 24 or 48 hours. For a money lender, it is possible to grant it in just an hour. The RBI should mandate halting mela processes if the objective is to contain NPAs.

Micro management unnecessary: The risks should be factored from time to time to see that the NPA is not created. Uncooperative borrower should be given the chit then itself. At source, the NPA can be halted thus. Only when the data on NPA comes to its gate it should ask for the compliance process to satisfy itself that due process of diligence has been followed by the Bank and yet the NPA surfaced.

In a dynamic and growth oriented economy, NPAs do occur in spite of every prudence and this should be given a treatment conducive to reducing their impact. The question at stake is the sharp distinction between the willful default and circumstantial default where the Banks have interpretative advantage.

Create Appropriate Reserve: A former top executive of the RBI who did his Ph.D., on NPA Management has some good suggestion. Sans the statistical models creation of a ‘PRECAUTIONARY MARGIN RESERVE’ (PMR) suggested by him starts with a small levy of 0.10 percent to 0.75 percent on the following mandatory classification of standard advances.

For this purpose the standard advances have been classified into four categories: A, B, C, and D for levy of PMR thus:
A category – Excellent: 0.10%; B-Very Good: 0.25%; C-Good: 0.50% and D-Satisfactory: 0.75%.
The classification depends on character, competence, and credit worthiness of the borrower based on market intelligence report from the responsible official entrusted with those advances and bank’s own experience; internal credit rating; and conduct of account.

The levy suggested should go to a Reserve as PMR Account in the General Ledger and should be shown in the bank’s balance sheet on the liability side. This should not be part of the normal “Reserves and Surplus’ account of the balance sheet of the Bank. The levy is akin to a guarantee fees with recourse by the bank. As this forms part of the ‘Disclosure of Accounting Practices’ under the ICAI rules of ‘Statements and Standards of Accounting’ and enabled by Section 5 (Ca) and 21 of the Banking Regulation Act 1949, as a prudent banking practice, there should be no legal objection for creating and operating the reserve.

In the case of off-balance sheet exposures like the Guarantees, LCs, forward exchange contracts etc., and the levy can be 1%.

This PMR shall attract bank rate for purpose of interest calculation or could be indexed to inflation with a base of 6% per annum. This Fund can be equated to subordinated debt thereby enabling the bank to save the interest cost and future recurring liabilities.

Since this forms part of cost of credit to the borrower, he would also be careful in performance. This does not lead to unnecessary lenders’ arbitrage or moral suasion.

Governments need not bail out banks on account of NPA accumulations as recourse to this Fund can be taken with the approval of the Board every quarter on critical examination of the NPA account. This Fund would also add to the strength of the Balance Sheet.

Incentives for CDR Compliance: This Fund can also be utilised to incentivize the system while disciplining both borrower and the lender simultaneously whereby a Restructured Debt performing to the estimated level of efficiency can be provided incentive in interest outgo and full reimbursement of the evaluation fees for the Techno-Economic Feasibility of Restructuring Package done initially. All infrastructure loans both of the public sector and under PPP mode should be factored for repayment at source like the TDS at the point of revenue accession.

Let the Audit Perform its job: The danger in blaming the audit and vigilance system to be under the new dispensation is missing the wood for the trees. Why the CAs who annually audit alone should take the blame when the whole system of audits perpetrate it? How these NPAs originated deserves to be looked at for making corrections instead of making a wild goose chase. Any such measure should not cut the roots of business growth in banks. The sword of accountability when it shifts from the criminal to the judge, the criminal has every opportunity to take advantage of and getting away with the ransom.

In fact banks' due diligence process took a beating with the arm chair and system based lending initiation. Banks would be well advised to go back to the basics to correct the malady instead of aping the western models of credit risk management. Any bureaucratization with the setting up of a JLC or the like would only open another window of opportunity for the lender and borrower a safe exit from shouldering their due responsibilities with impunity and this shall not happen. It can only add to the costs at different levels without any return. The borrowers get more time and escape routes to reach their destination of defaulting on the loans for ever.

Monday, February 17, 2014

If wishes were horses voters would be riders.

The Budget is neither Vote Catching nor Vote on Account
Vote on Account Budget 14-15 presented today is more an accounting than budget as all the income and expenditure for the next six months has to be spent on account. What the Union Finance Minister has done is gimmicks or jugglery of figures when it came to Fiscal Deficit. He postponed payments due during the last three months and demanded advance payments of dividend from all the banks and the PSUs and even asked the RBI to transfer its surplus to contain the deficit. In the process what would happen is that the government that comes to power has a responsibility to pay up all the pent-up dues and forego all the receipts for the six months April –October 2014 if they are at the expected level because they were all on the basis of some assumptions of revenues and expenses projected for the next financial year. He is for sure going to handover empty treasury to his unknown successor.
Nobody knows how the domestic and global environment would turn out. But the hope is that it would be better if we are to go by some global trends.
As for the country, Agriculture growth has reached the benchmark of 4%. But manufacture growth is a matter of serious concern at a negative 0.6%. Services sector growth is way behind a double digit figure and hence the expectation of 4.9% growth this fiscal behind last year. When the real growth rates unfold, as we saw the revisions of the previous years going southwards, the future may prove less than the 4.9%.
Inflation, this period around every year the prices will be a few notches down. The food inflation is shown as 6.6% the lowest during the last 24months. WPI is shown at 3-4%. Official Inflation accounting and the actual price rise affecting the common man are at wide variance. Therefore, the sustainability of these figures viewed in the context of rise in fuel prices and gas prices is totally suspect, with formidable deficits ahead as indicated in VOA budget: Food security subsidy: Rs.1.15lakh crores; Fertiliser Subsidy; Rs.76000cr; Fuel Subsidy, Rs.65000cr. Plan Expenditure is Rs.5.52Lakh crores and the subsidy total just in those three heads is Rs.2.56lakh crores. There are direct tax dues of over Rs.4lakh crores and these are unlikely to be coming forth in the next six months. In a slow moving economy with depressing manufacturing sector and services sector, the revenues of the government are bound to take a hit.
Chidambaram has a knack of playing with banks and credit. He announced agriculture credit increase in the budget from Rs.7lakh crores to Rs.8lakh crores. The outflow is totally unrelated to budget. What one needs to look at is whether the interest subsidy and prompt payment incentive has been budgeted consistent with the outflow of Rs.8lakh crores budgeted. Here the figures indicate the net agricultural working capital credit flow would not cross Rs.3-4lakh crores. Education loan moratorium would hit the banks and not the government and therefore he could safely announce this. There is no budget flow to compensate the banks. In the context of Basel III where the capital shortfall is already staring at the banks, and with a huge Rs.4lakh and odd crores of NPAs and consequent provisioning on reclassification of assets, banks need heavy recapitalization in the next six months and the VOA budget conveniently ignores this aspect because the FM just does not have the needed money in any corner.
When do the sops reach the market? A minimum gap of three months: the elections would by then have been over. The new government would come to power. The Congress by public guess and the events unfolding now in Parliament, for sure should be aware that it will have to confine to the opposition benches. It is a fortuitous presumption if they access power at least in three or four more States with full majority.
The tax concessions announced may lead to some relief in capital goods sector. Is this enough to pep up the economy? The policy front is very sluggish. The deliverance is totally poor. Corruption has been endemic. The economic scenario is more depressing than in the 1990s in real terms. On the monetary policy front the improvements programmed would turn deliverables after a lag but only with due fiscal support. Neither the ambitious allocations nor expectations reveal the rational expectations of a VOA Budget.
If wishes were horses voters would be riders. The voter of today is more informed than today and he can’t be bullied by the poetic justice of the Finance Minister.

Saturday, January 18, 2014

2014 A Tough Year for the Indian Economy

A tough year ahead for the economy:
First decade of the century had witnessed greater height and steeper fall in global economy the same has been true for Indian economy. The greatness of Indian economy, though at pains, is that it kept on expanding twice the global economic expansion rate during this period. Some even say that the economy is moving more by sentiments than fundamentals, because we do not have the rate of savings and investments moving up as was the case five years ago.
Sustained wholesale inflation of 7% and retail inflation of over 10% indicates the underlying robust demand and inadequate supply in the system. This unfulfilled demand will pave the way for Indian economic leadership in this decade. Free fall of Indian rupee, triggering currency swap arrangement with some countries means nothing but the beginning of the globalization of Indian rupee in a small way.
The stubborn inflation and free fall of rupee indicates inefficiency and waste built into our economy, which cannot be managed by monetary or economic policies alone; at the most these can be enablers to some extent. The Commerce Ministry, Government of India, has finalised arrangements with some 23 countries with whom Indian can trade in local currencies. In simple terms, the importer or exporter in both the countries has to quote and receive settlements in their own currencies. No third country currency is involved, thereby eliminating the need to worry about exchange variations, for a good beginning!
India's emphasis has been to persuade countries to come to this arrangement, where India has substantial or sizeable trade deficit with that country. By doing so, the dues are still payable in rupees, thus saving the need to settle in "foreign exchange" in say, US dollars, Euros, or whatever. Once the Finance Ministry approves the country with whom such an arrangement would be mutually beneficial, Commerce Ministry takes over the responsibility to start the bilateral talks to arrive at a suitable agreement.
It may be noted that, in the first half of the current fiscal (2013-14), there has been a depletion of $10.7 billion in foreign exchange reserves, purely due to the decline in net capital inflows.
Fortunately, in this basket, there are leading, oil exporters such as Angola, Algeria, Nigeria, Iran, Iraq, Oman, Qatar, Venezuela, Saudi Arabia and Yemen. At the moment, efforts are being made to increase our exports to Iran, Iraq, Oman, Qatar and Saudi Arabia. Iran has a credit balance of Rs50000crore (or about $6 billion), and it is in our interest to closely work with that country to meet their needs, in terms of products, services and turn-key jobs.
In the list of non-oil exporters, but with whom, we do have substantial trade, we have advanced countries like Japan, Russia, Australia, South Korea besides Singapore, Indonesia, Malaysia, Mexico, South Africa and Thailand. Recently, Japan increased the volume from $15 to $50 billion so that trade can flourish between two friendly nations, without involving third currencies. It is essential that exporters take advantage of the present arrangements and strengthen the government's effort, by strictly adhering to the rupee quotations for trade.
Notwithstanding all these efforts, April-November 2013 indicates declining exports. This could be because of the world economy still suffering from an under-consumption bias because of low and declining share of wages in GDP in all major advanced economies including the US, Germany and Japan, as well as China.
Our current account deficit has narrowed down to almost 2% now, as compared to 4.5% in the first half of last year because of putting brakes on gold imports. However, the World Gold Council states that smuggling of gold has surged. There is need for fresh thinking on export import strategies. There is need to promote exports through trade exhibitions in all the rupee-trade countries particularly like Iran, Nigeria, Qatar, Saudi Arabia, Japan, South Korea, Mexico and Venezuela.
Fiscal deficit has already touched 93% of projections for the current financial year. There are huge election expenses to be met. Again, the Governments, both the State and Centre are yet to commence the implementation of the Food Security Act 2013 that has clear hole in the fiscal balance. Then there are further releases of wage hikes for MNREG and salary and DA hike for the State and Central Government employees. The Central Government is therefore keen on pushing all expenses from January to March 2014 to the next year. It is the post-election Government that will have burns under its feet. In fact, Raghuram Rajan has already warned that it is imprudent to postpone payment of government bills to the next fiscal. But the government is in no position to listen.
Several PSUs are not able to honour the payments to their vendors who are mostly MSMEs within the contracted 90days and this has been accentuating the NPA portfolio of MSMEs in most Banks. When the provisions rise on this count for the Banks, the dividends that are paid in advance to the owner, GOI with a view to bridge the fiscal deficit on the insistence of the FM would further dent into the future balances on this count. One gets a genuine doubt over the government indulging in these luxuries, as it is more than aware that it would not come to power!!
The next fiscal that sees the introduction of GST and Direct Tax Code could see some stability in stock markets. It is also quite likely that the global scenario of stock markets also renders more hope than the current. GARP (Jan5) predicts, of course, a year of hope on stocks backed by global growth. Adds however: “Reality has a way of defying expectations. Few forecast a 30 percent gain for stocks this year. No one really knows what 2014 will bring.” Being vulnerable to
Developing economies including India could suffer a setback due to the likely sharp revival anticipated in Europe and US and the resulting shift in investor interests.
In so far as commodities are concerned, oversupply could keep the prices weak in 2014. Gold is likely to retain its glitter.
Agricultural growth of 4percent this year has behind it a continuing decline of growth in manufacturing and mining sectors. The marginal rise in the power sector is no insurance for a sharp growth in the current year. The current fiscal may see 5percent still but the hope of the future depends on more of politics than economics.

Thursday, January 2, 2014

VITALINFO: Why FinMin wants public sector lenders to rush into selling insurance

VITALINFO: Why FinMin wants public sector lenders to rush into selling insurancePSBs to sell the insurance products and invest in training of its staff already overloaded with other regular banking work and not having time to spare for training off their operating desks, would end up selling soaps of TATA by Proctor and Gamble. The bancassurance itself has not take off as a corporate agency model successfully. Most staff today know only the system and not banking domain. If they are asked to get into another domain insurance as well, the banks' balance sheets will take a big hit. It is time that the banks are allowed to do banking more efficiently and in a more customer-friendly manner and also devote more time for innovation of new deposit and credit products competitively in the emerging rural areas. It is also important that the human capital should be allowed to add its weight for strengthening Basel III emerging capital requirements. 'Let not thy winged days be spent in vain, where gone no gold can try them back again.'(Oliver Goldsmith) It is time to revisit the recommendation of the First Financial Sector Reforms of M. Narasimham on the Government diluting its hold over public sector banks, particularly in not getting into micro management. Let the banks decide for themselves what business they should do and what they should not and hold themselves responsible for all their decisions.