There’s something rotten in India’s corporate hallways. Recent estimates say that Indian banks have $178 billion in distressed corporate debt. Most of this debt is held by state-run banks and threatens to slow down the economy as banks are forced to put aside money to offset losses. The main culprits are large corporations in the infrastructure, metal and power sectors. According to the Indian daily The Hindu, the top 10 debtors together owe banks $74 billion. (See also "3 Economic Challenge India Faces for 2016")
This month the Finance Ministry in its annual report said that gross non-performing assets (GNPA) could rise to 6.9% by March 2017 in a “severe stress scenario.” The ratio of non performing assets is currently 5% and this does not include debts that have been written off or restructured.
According to the daily Indian Express, a Right To Information (India’s FOIA) query revealed that 29 banks wrote off $17 billion in bad debt between 2013 and 2015. (While the authorities called the writing off of loans just a way to maintain balance sheets, companies have little incentive to repay loans.) For 2015 the state-run State Bank of India, India’s largest commercial bank, accounted for 40% of all written-off debt.
Last December the country’s main banking regulator, the Reserve Bank of India, sounded alarm bells and ordered financial institutions with stressed corporate accounts to clean up their balance sheets and make provisions for bad loans by March 2017. RBI Governor Raghuram Rajan called the asset quality review conducted by RBI “a deep surgery” and the medical metaphors continued as bankers and the RBI confronted each other on the best way to deal with the situation. What followed is a larger acknowledgement of bad loans by banks than we’ve ever seen before and the start of a firesale of assets by large corporations.
Regulation at long last
After releasing the results of the asset quality review RBI Governor Rajan described what happens in most scenarios without intervention - “the low growth that precipitated the stress persists. The fresh lending intended to keep the original loan current grows. Facing large and potentially unpayable debt, the promoter loses interest, does little to fix existing problems, and the project goes into further losses.”
The government stepped in recently which was a delayed but much-welcome move for investors. The Insolvency and Bankruptcy Code passed by parliament on May 12 created a framework for banks to wrest control of insolvent companies unable to pay their debts in 180 days. This is a great departure from the earlier course of action - dealing with India’s lethargic legal system. World Bank data estimated that corporate insolvencies in India took an average of four years to resolve. Compare this to the one-and-a-half year it takes in the US and one year in Australia.
The Reserve Bank of India has also proposed new regulations. A report published by the organization said careful analysis showed “build-up of high concentration of credit risk at the systemic level in the banking sector.” In order to reduce the banking system’s exposure to large corporations, firms that have borrowed over the threshold limit from a group of banks will fall under a new category of “specified borrowers” and banks will have to set aside additional provisions if they are offering them loans. As there is no ceiling limit on the amount of loans a single firm can take out, this is an effort to discourage borrowing by high risk companies.
The sad irony of India is that while farmers commit suicide at an alarming frequency due to bad harvests and intimidation from local moneylenders, Indian businessmen and shareholders have gotten away with large debts for years and have had very little motivation to restructure. Most recently beer baron Vijay Mallya left the country for the U.K. with $1.3 bn of debt owed to Indian banks. Capital infusions into public sector banks redirect much-needed state funds away from neglected sectors like healthcare and education.
However, the events of the last few months signify a change. New bankruptcy legislation and RBI holding banks and corporations accountable for bad debt sends a message about how far corporations will be supported by the banking system in the name of progress and development.