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Impact of Covid-19 on the Indian Banking System

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This report has been authored by Akanshu Arora, Kritika Jayaraman, Dhruv Dhruv Kaliraman and Nikhil from Arthashastra Intelligence Foundation

Contents

  1. The status of stressed assets
    a. Stressed Assets Statistics Before Pandemic
    b. Stressed Assets Statistics During Pandemic
  2. Measures taken to address COVID-19 Effects on Banking System in India
    a. BASEL III Norms
    b. Moratorium
    c. Asset reclassification
    d. Restructuring of Loans
    e. TLTROs
    f. Other Recent Measures
  3. Policy Suggestions and Recommendations
  4. References

“Too big to fail” was the rhetoric used during the 2008 subprime mortgage crises and the same rhetoric applied when IL&FS, or the Infrastructure Leasing and Financial Services Limited, was threatening to go under in 2018. It was in 2018 that the alarm bells started ringing about NBFCs and NPAs. However, the alarm bells had gone off years back.

SOURCE: Financial Institutions: Soundness and Resilience Report July 2020, RBI

The share of Gross Non-Performing Assets (GNPAs) among total loans declined to 9.1% in FY19 after having risen for seven consecutive years. The slippage ratio (indicating fresh accretion of NPAs in a year) also declined.

The banks recovered ₹70,819 cr. worth stressed assets in FY19 under the Insolvency and Bankruptcy Code, compared to ₹4,926 cr. in FY18. This played a part in the GNPA’s decline. The GNPA of private banks increased due to classification of IDBI bank (NPA ratio: 29.43) as a private bank.

The status of Stressed Assets

Stressed Assets Statistics Before Pandemic

Table 1: Status of Stressed Assets before the pandemic

YEAR

PSBs

PVBs

SMA-1

SMA-2

SMA-1

SMA-2

FY18

      2.8

      1.0

      1.5

      0.3

FY19

      1.3

      0.7

      1.8

      0.5

H1FY20

      1.6

      2.2

      1.9

      1.2

SOURCE: Report on Trend and Progress of Banking in India December 2019, RBI

The Non-Performing Assets (loans overdue for >90 days) ratio for all commercial banks declined in FY19 after rising for seven consecutive years. However, in the first half of FY20, stressed assets (SMAs) inched up. Moreover, the NPA ratio of Indian banks is the poorest among emerging economies.

Figure 1: Stressed Assets before the Pandemic, SOURCE: Report on Trend and Progress of Banking in India December 2019, RBI

Stressed Assets Statistics During Pandemic

Moratorium Relief:

· The unprecedented economic situation faced by the country made it necessary for RBI to adopt measures to protect businesses and the ability of a debtor to service debt at the times when the whole country was under a lockdown resulting in negligible economic activity. Therefore, as discussed with banks, RBI announced decision related to moratorium period with an intention to ensure continuity of viable businesses and to reduce the burden of debt servicing introduced a Moratorium in respect of all term loans (including agricultural term loans, retail and crop loans), all commercial banks (including regional rural banks, small finance banks and local area banks), cooperative banks, all-India Financial Institutions, and NBFCs (including housing finance companies) or lending institutions, for mitigating the debt servicing burden faced by companies due to disruptions caused by COVID-19 pandemic.

· The RBI has ensured that non-payment of instalments, availing of this said moratorium period will not be considered a “default” or \”asset classification downgrade” in bank’s balance sheets. The interest on the outstanding portion of Term Loans would continue to ensue and in terms of the working capital facilities, the accumulated interest shall be recovered immediately after the moratorium.

· The six months extension of moratorium (with the possibility of further extension) certainly helped borrowers, be the homebuyers or real estate developers who were under a great monetary pressure.

· As a result of this, the GDP forecast for the current fiscal has a contraction of 9.5 per cent compared to an earlier estimate of a 5 per cent contraction. ICRA said, the gross NPAs for banks may rise to 11.3-11.6 per cent by March. Amid rising NPAs, it also highlighted the stress on profitability for public sector banks (PSBs), at around (4.5)-(8.0) per cent, and weakness in private banks\’ (PVBs) return on equity, at around 3.4-5.1 per cent, during FY21. If the macroeconomic environment worsens further, the NPA ratio may escalate to 14.7 per cent under the very severely stressed scenario. Banks, in general, and BoI are already seized of such a possibility. The agency pegged the median loans under moratorium to be around 25-30 per cent of total loan books, compared to a broad band of 10-50 per cent.

· According to the RBI, nearly 50 per cent of the customers, accounting for around half of outstanding bank loans, opted to avail the benefit of the relief measures — loan moratorium — to tackle the lockdown impact. Bank-level stress test results show that 23 banks16 with a share of 64.5 per cent in banks total assets might fail to maintain the required CRAR under the scenario of 3 SD shock to the GNPA ratio. In such an extreme shock scenario, the CRAR of all the 18 PSBs is likely to go down to 9 per cent.

· Also, further extension of moratorium may lead to bank runs and create a credit crunch which would not help an economy that is trying to recover from the impact of the COVID-19 crisis. It may drastically affect the banks liquidity, curtailing their capacity to lend at the time when business badly needs capital to help them to recover from the pandemic.

Table 2: Analysis of Loan Moratorium Availed as on April 30,2020, SOURCE: Macro-Financial Risks July 2020, RBI

GNPA ratio:

· PSBs saw a reduction in the GNPA ratio and PVBs saw an increase in the GNPA ratio. This anomaly can be explained by the fact that 67.9% of the PSB loans were under the moratorium provided by the government, whereas only 31.1% of the PVB loans were under the moratorium.

Figure 2: GNPA Ratio, SOURCE: Financial Institutions: Soundness and Resilience Report July 2020, RBI

The projections made by the RBI confirm the fact that once the moratorium period gets over, there is going to be a sharp rise in the NPAs with the baseline and overly stressed scenario represented by the graph below.

Figure 3: GNPA ratio of SCBs, DATA SOURCE: Financial Stability Report July 2020, RBI

Small borrower trouble:

The graph below shows that the percentage of large borrowers (>5 crores) has been steadily decreasing. This points to the conclusion that smaller loans are more responsible for troubled assets.

Figure 4: SMA-2 Ratio, SOURCE: Financial Institutions: Soundness and Resilience Report July 2020, RBI

Measures taken to address COVID-19 Effects on Banking System in India

1.       BASEL III norms changes

2.       Loan Moratorium

3.       Asset Reclassification

4.       TLTROs

5.       Restructuring of Loans

6.       Other Recent Measures

BASEL III Norms

How Basel III Norms Affects Indian Banks?

The Basel III which is to be implemented by banks in India as per the guidelines issued by RBI from time to time is a challenging task not only for the banks but also for Government of India. The Indian banks were  required to raise Rs 6, 00,000 crores in external capital by this year, i.e. 2020 (The estimates vary from one organization to other). Expansion of capital to this extent will affect the returns on the equity of these banks especially public sector banks. However, only consolation for Indian banks is the fact that historically they have maintained their core and overall capital well in excess of the regulatory minimum.

BASEL Committee response to COVID-19

Basel Committee sets out additional measures to alleviate the impact of Covid-19 (03rd of April)- The Basel Committee on Banking Supervision is has released out additional measures to alleviate the impact of Covid-19 on the global banking system. These measures support the provision of lending by banks to the real economy and provide additional operational capacity for banks and supervisors to respond to the immediate financial stability priorities.

· The Committee has agreed that payment moratorium periods (public or granted by banks on a voluntary basis) relating to the Covid-19 outbreak can be excluded by banks from the number of days past due, and agreed that the assessment of unlikeliness to pay should be based on whether the borrower is unlikely be able to repay the rescheduled payments (i.e. after the moratorium period).

· Committee has also decided to postpone the implementation of the revised G-SIB (Global Systematically Important Banks) framework by one year, from 2021 to 2022.These adjustments will provide additional operational capacity for banks and supervisors in the current juncture.

· The Committee and the International Organization of Securities Commissions have agreed to defer the final two implementation phases of the framework for margin requirements for non-centrally cleared derivatives by one year.

· The Committee will continue to monitor the banking and supervisory implications of Covid-19, and actively coordinate its response with the Financial Stability Board and other standard-setting bodies.

RBI’s policies on BASEL norms in the view of COVID-19

RBI extends CCB deadline (27th March)- The CCB (Capital Conservation Buffer) is designed to ensure that banks build up capital buffers during normal times, which can be drawn down as losses are incurred during a stressed period. Currently, the CCB of banks stands at 1.875% of the core capital. Considering the potential stress on account of Covid-19, it has been decided to further defer the implementation of the last tranche of 0.625% of the CCB from March 31 to September 30,” RBI governor Shaktikanta Das said in a statement which in turn could lower regulatory capital requirement for the sector by around Rs 56,000 crore. This would help banks increase lending by over Rs 3.5 lakh crore by leveraging ten times of the capital.

l  Banks get 20% LCR breather till October (17th April)- The LCR (Liquidity Coverage Ratio) requires banks to hold enough high-quality liquid assets such as short-term government bonds that can be sold to fund a stress scenario. Banks are required to hold LCR which is 100 per cent equivalent of projected cash outflows during the 30-day stress scenario. Governor Shaktikanta Das said “to ease the liquidity position at the level of individual institutions, the LCR requirement for commercial banks is being brought down from 100 to 80 percent with immediate effect.” This decision is aimed at easing the liquidity woes at institutions level.

l  RBI relaxes leverage ratio (4th of June)- The leverage ratio, as defined under Basel-III norms, is Tier-I capital as a percentage of the bank’s exposures. The framework is designed to capture leverage associated with both on- and off-balance sheet exposures. In this case, a bank’s total exposure is defined as the sum of the following exposures: on-balance sheet exposures; derivative exposures; securities financing transaction exposures; and off-balance sheet items. “Keeping in mind financial stability and with a view to moving further towards harmonization with Basel III standards, it has been decided that the minimum LR should be 4% for Domestic Systemically Important Banks (DSIBs) and 3.5% for other banks,\” RBI said in the statement. “What this does is allow banks to lend more from the same amount of capital they hold, giving them an impetus to lend more. Earlier this leverage ratio was decided at 4.5% for the Banks.

Moratorium

Impact of moratorium on Banks

The unprecedented economic situation faced by the country made it necessary for RBI to adopt measures to protect businesses and the ability of a debtor to service debt at the times when the whole country was under a lockdown resulting in negligible economic activity. Therefore, as discussed with banks, RBI announced decision related to moratorium period with an intention to ensure continuity of viable businesses and to reduce the burden of debt servicing introduced a Moratorium in respect of all term loans (including agricultural term loans, retail and crop loans), all commercial banks (including regional rural banks, small finance banks and local area banks), cooperative banks, all-India Financial Institutions, and NBFCs (including housing finance companies) or lending institutions, for mitigating the debt servicing burden faced by companies due to disruptions caused by COVID-19 pandemic.

The RBI has ensured that non-payment of installments, availing of this said moratorium period will not be considered a “default” or \”asset classification downgrade” in bank’s balance sheets. The interest on the outstanding portion of Term Loans would continue to ensue and in terms of the working capital facilities, the accumulated interest shall be recovered immediately after the moratorium.

The six months extension of moratorium (with the possibility of further extension) certainly helped borrowers, be the homebuyers or real estate developers who were under a great monetary pressure.

As a result of this, the GDP forecast for the current fiscal has a contraction of 9.5 per cent compared to an earlier estimate of a 5 per cent contraction. ICRA said, the gross NPAs for banks may rise to 11.3-11.6 per cent by March. Amid rising NPAs, it also highlighted the stress on profitability for public sector banks (PSBs), at around (4.5) – (8.0) per cent, and weakness in private banks\’ (PVBs) return on equity, at around 3.4-5.1 per cent, during FY21. If the macroeconomic environment worsens further, the NPA ratio may escalate to 14.7 per cent under the very severely stressed scenario. Banks, in general, and BoI are already seized of such a possibility. The agency pegged the median loans under moratorium to be around 25-30 per cent of total loan books, compared to a broad band of 10-50 per cent.

According to the RBI, nearly 50 per cent of the customers, accounting for around half of outstanding bank loans, opted to avail the benefit of the relief measures — loan moratorium — to tackle the lockdown impact. Bank-level stress test results show that 23 banks16 with a share of 64.5 per cent in banks total assets might fail to maintain the required CRAR under the scenario of 3 SD shock to the GNPA ratio. In such an extreme shock scenario, the CRAR of all the 18 PSBs is likely to go down to 9 per cent.

Also, further extension of moratorium may lead to bank runs and create a credit crunch which would not help an economy that is trying to recover from the impact of the COVID-19 crisis. It may drastically affect the banks liquidity, curtailing their capacity to lend at the time when business badly needs capital to help them to recover from the pandemic.

Asset reclassification

Figure 5: Usual Regime for Asset Classification, Figure Source: ixambee.com

Usual Regime for Asset Classification

Asset classification is a system for identifying and recording good or performing assets and bad or non-performing assets of a lender based on several identified characteristics. Banks are required to classify loan accounts in accordance with the Prudential Norms on Income Recognition, Asset Classification and Provisioning, pertaining to Advances dated July 1, 2015 (“IRAC Norms”) issued by the RBI. A ‘non-performing asset’ as per the IRAC Norms is a loan or an advance where interest and/ or instalment of principal remain overdue for a period of more than 90 days with respect to a term loan. The non-performing asset (“NPA”) is further classified into: (a) sub-standard, (b) doubtful and (c) loss asset, depending on the time period for which such an account has remained non-performing.

In addition to the aforesaid, Reserve Bank of India (Prudential Framework for Resolution of Stressed Assets) Directions, 2019, dated June 7, 2019 (“June 7 RBI Directions”), direct banks to recognize incipient stress in loan accounts, immediately on default, by classifying such accounts as Special Mention Accounts (SMA), basis the number of days for which the default has continued. If the default continues for a period of: (a) 1–30 days, account is required to be identified as SMA-0; (b)  31–60 days, account is identified as SMA-1; and (c)  61-90 days, account is identified as SMA-2; beyond which, the account is classified as an NPA.

Temporary changes in Asset Classification guidelines

· On March 27, 2020, the RBI permitted all commercial banks (including regional rural banks, small finance banks and local area banks), co-operative banks, all-India Financial Institutions, and NBFCs (including housing finance companies and micro-finance institutions) (referred to hereafter as \”lending institutions\”) to allow a moratorium of three months on payment of instalments in respect of all term loans outstanding as on March 1, 2020.

· In view of the extension of the lockdown and continuing disruptions on account of COVID-19, it was decided to permit lending institutions to extend the moratorium on term loan instalments by another three months, i.e., from June 1, 2020 to August 31, 2020. Accordingly, the repayment schedule and all subsequent due dates, as also the tenor for such loans, may be shifted across the board by another three months. Here are the asset classification guidelines announced by RBI.

· No Downgrade during Asset Classification– As the moratorium/deferment is being provided specifically to enable borrowers to tide over COVID-19 disruptions, the same will not be treated as changes in terms and conditions of loan agreements due to financial difficulty of the borrowers and, consequently, will not result in asset classification downgrade.

· No impact on Credit history of the borrowers– The rescheduling of payments on account of the moratorium/deferment will not qualify as a default for the purposes of supervisory reporting and reporting to credit information companies (CICs) by the lending institutions. CICs shall ensure that the actions taken by lending institutions in pursuance of the announcements made (as a part of RBI COVID_19 relief package) do not adversely impact the credit history of the borrowers.

· Standstill in NPA Classification– In respect of all accounts for which lending institutions decide to grant moratorium/deferment, and which were standard as on March 1, 2020, the 90-day NPA norm shall also exclude the extended moratorium/deferment period. Consequently, there would be an asset classification standstill for all such accounts during the moratorium/deferment period from March 1, 2020, to August 31, 2020.

· Flexibility to NBFCs– NBFCs, which are required to comply with Indian Accounting Standards (IndAS), may follow the guidelines duly approved by their Boards and advisories of the Institute of Chartered Accountants of India (ICAI) in recognition of impairments. Thus, NBFCs have flexibility under the prescribed accounting standards to consider such relief to their borrowers.

Restructuring of Loans

The Reserve Bank of India, in its latest statement on developmental and regulatory policies, announced a scheme for one-time restructuring of loans to help borrowers manage the stress caused by the Covid-19 pandemic. The restructuring of loans has been allowed for retail, MSME and corporate loans. The so-called Resolution Framework for Covid-19 related stress has been formed as a special window under the June 7, 2019 RBI guidelines for restructuring and allows banks to give borrowers more time to pay back without classifying a loan as an NPA.

For corporate, the scheme is applicable to only those borrower accounts which were classified as standard, and not in default for more than 30 days, as on March 1 2020. The invocation of restructuring must be implemented by December 31 2020.

Loan restructuring intends to provide flexibility to banks and was needed as there is a risk of banks’ NPAs rising by alarming proportions, which is estimated debt worth Rupees 3 lac crores is at risk of slipping into NPAs if not restructured and moratorium continues, by the end of the year. According to the RBI’s Financial Stability Report, the banks’ NPAs, which, until now, were showing a declining trend, are estimated to rise to 12.5 per cent by March, 2021. If the economic environment worsens further, the NPAs are estimated to rise to 14.7 per cent.

How will it be implemented?

The RBI has set up a five-member expert committee headed by K V Kamath, former Chairman of ICICI Bank, which will make recommendations on the financial parameters required. While the RBI has given the broad contours, the panel will recommend the sector-specific benchmark ranges for such parameters to be factored into each resolution plan for borrowers with an aggregate exposure of Rs 1,500 crore or above at the time of invocation. The Committee will also undertake a process validation of resolution plans for accounts above a specified threshold. The RBI will notify this along with modifications in 30 days. This means the RBI will have the last word on who will be eligible and the parameters.

How will the scheme impact bank?

The biggest impact will be that banks will be able to check the rise in non-performing assets (NPAs) to a great extent. However, it will not bring down the NPAs from the present levels; legacy bad loans of close to Rs 9 lakh crore will remain within the system. Banks will have to maintain additional 10% provisions against post-resolution debt, and lenders that do not sign the Inter-Creditor Agreement (ICA) within 30 days of invocation of the plan will have to create a 20% provision. This will be a burden for banks. While a section of borrowers who have gone for a moratorium is likely to apply for the scheme, banks won’t face much of a problem in working out individual resolution plans: they will have to tackle only borrowers who were in stress after the pandemic hit

What are the major differences with previous recast schemes?

The earlier restructuring schemes did not have any entry barrier, unlike the current scheme that is available only for companies facing COVID related stress, as identified by the cut-off date of March 1. Strict timelines for invocation of resolution plan and its implementation have been defined in the scheme, unlike in the past when this was largely open-ended. The structuring of the scheme makes signing of the ICA largely mandatory for all lenders once the resolution plans has been majority-voted for, otherwise they face twice the amount of provisioning required. Independent external evaluation, process validation and specific post-resolution monitoring are further safeguard

SME’s Restructuring

The Reserve Bank of India (RBI) on Thursday extended the existing debt restructuring scheme for stressed micro, small and medium enterprises (MSMEs) by three months to March 31, 2021, in view of the distress brought upon by the COVID-19 outbreak.  The central bank also changed the cut-off date for MSMEs to become standard accounts in order to be eligible under the scheme to March 1, 2020 from January 1, 2020.

According to the RBI’s Financial Stability Report (FSR) released last month, 65% of system loans to MSMEs were under moratorium as on April 30. There is uncertainty around the ability of these borrowers to eventually repay. While the debt recast will help keep bad loan numbers under control through the duration of the scheme, there is danger of a spurt thereafter. In a recent report, India Ratings and Research said that between September 2019 and April 2020, the proportion of rated mid and emerging corporate (MEC) universe in default increased to 18% from around 10%. The agency estimates that 60% of its rated MECs qualify as MSMEs under the new definition.

The conditions stipulated by the RBI include:

· The aggregate exposure, including non-fund based facilities, of banks and NBFCs to the borrower does not exceed Rs 25 crore as on March 1, 2020.

· The borrower’s account was a ‘standard asset’ as on March 1, 2020.

· The restructuring of the borrower account is implemented by March 31, 2021.

· The borrowing entity is GST-registered on the date of implementation of the restructuring. However, this condition will not apply to MSMEs that are exempt from GST-registration. This shall be determined on the basis of exemption limit obtaining as on March 1, 2020.

· Asset classification of borrowers classified as standard may be retained as such, whereas the accounts which may have slipped into NPA category between March 2, 2020 and date of implementation may be upgraded as ‘standard asset’, as on the date of implementation of the restructuring plan. The asset classification benefit will be available only if the restructuring is done as per provisions of the circular.

· As hitherto, for accounts restructured under these guidelines, banks shall maintain additional provision of 5% over and above the provision already held by them.

The existing restructuring scheme was applicable to around 900,000 MSMEs. Till January 31, 2020, more than 600,000 MSME accounts were restructured by the public sector banks of amount involving Rs 22,650 crore. The Federation of Indian Micro and Small & Medium Enterprises (FISME) pointed out that restructuring or liquidation exercise becomes difficult for loss-making MSMEs because of competing claims of multiple creditors who want to take possession of MSME assets, in the absence of Insolvency and Bankruptcy Rules for proprietorship and partnership firms. Such firms make up more than 90 per cent of the sector.

TLTROs

CRR, Repo rates and Reverse Repo rate

The RBI cut down Repo rates by 75 basis points to 4.4 per cent to deal with the hardship caused due to the outbreak of Covid-19. The reverse repo rate was cut by 90 basis points to 4 per cent. The central bank also reduced the cash reserve ratio (CRR) of all banks by 100 basis points to 3 per cent. The following steps taken will boost liquidity and ease debt pressure, provided bank pass on the benefit to customers quickly.

TLTRO 1.0

In the past, through LTRO and other operations, RBI gave money to banks but instead , bank decided not to lend it or lend it to Government only or buying Government bonds, thus playing safe. To improve the situation listed above and to inject money in the economy, RBI decided to introduce TLTRO. Given below is the process of its working:

· RBI lends to banks in four tranches of Rs 25,000 Cr each. Thus total Rs 1 lakh Cr in TLTRO

· Once the banks bid for an amount, they will get it at the determined repo rate (which was 4.4% at that time) for the tenure of three years.

· Banks need to compulsorily use this amount in fresh acquisition of bonds in a time interval of 30 days. Failing which they pay 2% higher interest.

· Bonds need to be an investment grade (Credit rating of BBB or better)

· A bank can buy maximum of 10% of the total amount to one entity.

· Also 50% of the fund should be used for fresh issue, i.e. in Primary Market and another 50% in secondary market.

· Banks can buy bonds of any duration. The amount borrowed from RBI need to be return after 3 years with the interest.

In each of the phase, the bid amount exceeded than the notified amount. Thus, allotment was done on pro-rata basis which shows banks were highly interested in this scheme.

TLTRO 2.0

From last few years, Banks have been averse of lending more. So, with the amount of TLTRO, the banks bought only high rated bonds of corporate (like Reliance etc. which have otherwise very little trouble raising money anyhow). But these high rated bonds were not facing any major Cash flow issues and they were backed by big firms. One of aim of the funds given via TLTRO to banks was meant to deploy for firms which are facing severe liquidity issues and are unable to raise cash (primarily to NBFCs). Thus, the motive of TLTRO was not accomplished even though banks showed huge interest in borrowing from RBI.

Thus, keeping in mind, to improve the situation of NBFCs, RBO introduced second edition of TLTRO on April 17,2020 with more restrictions of how to deploy borrowed funds. Under Version 2, RBI will give an additional Rs 50,000 Cr. This amount cannot be used to lend to corporate – but NBFCs. The following conditions were laid[1]:

· Minimum time to deploy the allocated funds has been extended to 45 days.

· The given 50,000 Cr should be used to buy bonds of NBFCs only, housing finance companies included.

· 10% of the allocated fund must be used for Micro-financiers (MFIs). 15% of the fund should be used for NBFCs with asset size of Rs 500 Cr and below. 25% of the allocated funds should be used for NBFCs with asset size of Rs 500 Cr – Rs 5,000 Cr. The rest 50% can be deployed any which way they choose.

· There were no criteria as such for primary and secondary market.

· The rest of TLTRO guidelines remain same.

· The table given below shows the result of first-tranche 3-year Targeted LTRO 2.0 as published on April 23,2020

Was TLTRO 2.0 successful?

As the above table shows, out of the total Notified Amount which was available to be auctioned, there were bids for half of it. However, during all the phases of TLTRO 1.0, the Total amount of bids received always exceeded the Notified Amount. This limited participation by banks in TLTRO 2.0 clearly shows that banks were reluctant to lend to mid-size and small NBFCs and MFIs in this pandemic.

Impact of TLTROs

Targeted LTRO was introduced specifically with two objectives:

· Provide financing for NBFCs without the RBI directly buying their paper. An NBFC can issue bonds and get cash, and the subscribers will be banks through the TLTRO money given by the RBI

· Stabilize the bond and CP Market, where a good portion of transactions have been done by mutual funds, mostly as purchasers. With debt mutual funds seeing large redemption, the buyers got vanished and the market was frozen – the TLTRO was supposed to bring in banks as buyers, who will then purchase the paper either issued directly by corporate, or that’s being sold by the funds.

The overall impact of TLTRO was somewhere only half accomplished as in the first phase of TLTRO 2.0, banks subscribed for only half of the total amount available at auction. This means that the situation of only half NBFCs will improve, other half need to borrow from other sources at higher interest rate. However, TLTRO 1.0 somewhere injected liquidity in the market but the transmission process (through big firms) was not what RBI aimed for. Though the situation of high rated bonds got even better, bonds of lower grade belonging to small firms or NBFC need to improve. Following suggestions can be considered by RBI:

· Like the US Fed who is directly buying commercial paper of small firms, RBI can be the direct buyer too. This will eliminate the role of middleman which banks were playing and funds will be allocated as desired.

· Given the lack of risk appetite in banks from last few years, a structure with partial credit guarantee by the Government of India, similar to the PCG scheme launched last year for Securitisation, maybe the viable option to improve liquidity scenario of NBFCs

Other Recent Measures

SLR Holdings in Held to Maturity (HTM) category

To engender orderly market conditions and ensure congenial financing costs, the Reserve Bank on September 1, 2020, increased the limits under Held to Maturity (HTM) category from 19.5 per cent to 22 percent of NDTL, in respect of SLR securities acquired on or after September 1, 2020, up to March 31, 2021. To give more certainty to the markets about the status of these investments in SLR securities after March 31, 2021, it has been decided to extend the dispensation of enhanced HTM limits of 22 percent up to March 31, 2022 for securities acquired between September 1, 2020 and March 31, 2021. The HTM limits would be restored from 22 per cent to 19.5 percent in a phased manner starting from the quarter ending June 30, 2022. It is expected that banks will be able to plan their investments in SLR securities in an optimal manner with a clear glide path for restoration of HTM limits.

Regulatory Retail Portfolio – Revised Limit for Risk Weight

As per the present RBI instructions, the exposures included in the regulatory retail portfolio of banks are assigned a risk weight of 75 per cent. For this purpose, the qualifying exposures need to meet certain specified criteria, including low value of individual exposures. In terms of the value of exposures, it has been prescribed that the maximum aggregated retail exposure to one counterparty should not exceed the absolute threshold limit of ₹5 crore. In order to reduce the cost of credit for this segment consisting of individuals and small businesses (i.e. with turnover of up to ₹50 crore), and in harmonization with the Basel guidelines, it has been decided to increase this threshold to ₹7.5 crore in respect of all fresh as well as incremental qualifying exposures. This measure is expected to increase the much-needed credit flow to the small business segment.

Individual Housing Loans – Rationalization of Risk Weights

Differential risk weights are applicable based on the size of the loan as well as the loan to value ratio (LTV). Recognizing the criticality of real estate sector in the economic recovery, given its role in employment generation and the inter-linkages with other industries, it has been decided, as a countercyclical measure, to rationalize the risk weights by linking them only with LTV ratios for all new housing loans sanctioned up to March 31, 2022. Such loans shall attract a risk weight of 35 per cent where LTV is less than or equal to 80 per cent, and a risk weight of 50 per cent where LTV is more than 80 per cent but less than or equal to 90 percent. This measure is expected to give a fillip to bank lending to the real estate sector.

Policy Suggestions and Recommendations

1. During the lockdown all the business was closed and lead to heavy losses to entrepreneurs. Many of the small business have closed down. Due to moratorium, there is no reclassification of assets done. The SMA-2 Special Mention Asset which are accounts where interest or principal is overdue for a period between 61 and 90 days. These accounts are prone to be NPAs due to the economic slowdown and impact of Covid-19. There is a need to make provisions for these accounts so that the banks have enough buffer to face the crisis. There is a need to make a provision of around 15% to 20%.

2. As per RBI report there is going to be increase in NPA till March 2021.In March 2020 GNPA for public sector bank was 11.3% and Private Sector bank was 4.2%. In March 2021 under stressed scenario public sector bank GNPA will be 15.2% and for Private sector banks it will be 7.3%. It is necessary that the bank have funds to face the increase in NPA. There is a need that the government takes steps in improving the condition of banking sector. Government infuses capital into PSU banks to support credit expansion and to help them tide over losses resulting from provisions that are to be made for non-performing assets (NPAs). The government has infused over ₹3.15 trillion into public sector banks (PSBs) in the 10 years through 2018-19. Government in the past also stepped in to help the banks in the situation of crisis. Even in Budget 2019, the government allocated Rs 70,000 crores for PSBs. Due to the Pandemic the need for infusion of capital has increased. Government should infuse a capital of Rs 2,00,000 crores in banks.

3.  There is an indirect way through which government can help the banking sector. The government can provide certain tax benefits to the banking sector. Tax benefit can help to increase the profit after tax and in turn increase the capital. It can also help in increase in the production. It will tackle with the slowdown in the economic growth of the country. Government can provide both direct and indirect tax benefit.

Direct tax benefit can be provided by reduction in the income tax and corporate rates for AY 2021-22. This will all the individuals and business entity hit by the impact of pandemic. For Small Medium and Enterprises tax benefits like delayed payment of taxes for a period of 3-5 years so that they can revive their business and help them better comeback. Indirect tax benefit can be either provided by reducing the GST rates for service charges of banks or by providing waiver of applicability of GST on these services for the AY 2021-2022.

4. Climate change is inevitable and therefore drastic changes are needed in the energy sector and that was the focal point of the report released by the Rocky Mountain Institute, India and NITI Aayog. According to the International Energy Agency, in response to the financial crisis of 2008-09, large green stimulus programmes were implemented by China, Japan, Korea, the European Union and many of its member states, and the United States.  Evidence suggests that the macroeconomic benefit of green stimulus programmes ranged between 0.1% and 0.5% of GDP for around two years, depending on the size of the stimulus programme. This could be counted as a success, as in most countries the global financial crisis was associated with a GDP decline of 3% to 5%. Moreover, investments in green energy supported growth in manufacturing, construction and engineering jobs. The Indian Government has the perfect blueprint to invest in green energy and more so during an economic crisis. The facts above are indisputable and the government must take action for the revival of the economy as well as for the environment. It is also important to note that these green energy projects are safe, short-term, sustainable investments that would reap huge profits in the long run and not risky long-term investments.

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