In a bank-led economy, accelerating credit flows to productive sectors is crucial to unlock the potential for growth on a sustainable basis. But asset quality issues resulting from increasing defaults are obstructing the flow of credit to next-generation entrepreneurs. With the adoption of internationally accepted prudential standards, the legal and regulatory tools to speed up loan recovery have been gradually strengthened. The banking system has moved from the health code system to standards for classification and provisioning of assets.
As a result, he justified reforms to the legal structure to ensure loan recovery. These reforms have raised awareness in the sector and improved asset quality management, but the essential remains to be resolved. Bank borrowers have failed to realize the importance of their role in turning the economy around through rapid loan repayments. They do not feel responsible for the well-being of the borrowing community as a whole.
The deepest problem with asset quality is willful default due to embezzlement and fraudulent activities by some of the borrowers with the intent to deceive the banks. Such a community of borrowers not only freezes bank funds, but extends enormous collateral risk to the financial system. Efficient and rapid recycling of financial sector resources with rapid loan repayment can ensure a continuous flow of loan funds to commerce and industry. Such a stable and efficient financial system can optimize the synergy of the application of funds to fuel economic growth. If bank resources are affected by bad debts, they will not be able to provide funds to NextGen entrepreneurs, thus creating a vast credit void. Banks must honor their commitment to depositors whose funds are deployed in the form of credit. They are subject to liquidity risk if loans are not repaid on time, with considerable risks and costs that end up hurting stakeholder value.
1. Credit recovery tools:
The banking sector reform started in 1991 brought many changes to the laws on loan recovery. Enactment of Securitization and Reconstruction of Enactment of Financial Assets and Enforcement of Securities Interest (SARFAESI) Act 2002, formation of debt collection courts (DRT), debt collection courts (DRAT), asset reconstruction companies (ARC) , Lok Adalat, in addition to Public Money Recovery Act – 1988. The recent tectonic shift in solving credit problems came after the adoption of the Insolvency and Bankruptcy Code (IBC) – 2016 and the establishment of the Indian Council Insolvency and Bankruptcy (IBBI) to guide the process of resolving corporate insolvency. (CIRP) through the network of National Company Law Courts (NCLT) and the National Company Law Appeal Tribunal (NCLAT). A new set of experts – Resolution Professionals (PRs) are being developed to better regulate the debt resolution process.
In another groundbreaking historic development, the RBI granted a license to form National Asset Reconstruction Company Ltd (NARCL) – a bank that went bankrupt on October 4, 2021 with an initial capital of Rs. 6,000 crore shaping the 2021-22 budget proposals. It has already been incorporated as a corporation under the Companies Act 2013 in July 2021. Banks can now transfer, initially bad debts up to Rs. 2 lakh crores which will be resolved by the wrong bank using the services of India Debt Resolution Company Ltd (IDRCL) – experts who will sell bad debts to potential investors.
Credit rating agencies also play a critical role in monitoring credit history which can influence the pricing of loans based on risk. Good borrowers are increasingly aware and sensitive to the importance of building a better credit history to stay in business. Credit history is developing as an effective toolkit for showing creditworthiness, and RBI is on the verge of creating a public credit register – yet another pool of credit history.
2. History of loan collection:
RBI data indicates that despite the development of several recovery tools, non-performing assets (NPAs) in India compare strongly to BRICS economies except Russia. NPAs in 2020 in Brazil represent 2.2% of total assets, China – 1.8%, India – 7.9%, Russia – 8.8%, South Africa – 5.2 %. The amount of loan recovery represents only a meager 16.3% of loan maturities in 2018-19. It improved to 23.2% in 2019-2020, which could improve in the years to come with increased rigor in the application of recovery. Of the various recovery tools that worked well, the most effective was to invoke IBC -2016 through CIRP using NCLT. It could recover 45.7% and 45.5% of the loan amount in 2018-19 and 2019-2020. The invocation of the SAERFASI law of 2002 led to a recovery of 15 percent and 26.7 percent during the period. Loan recovery continues to be poor, hampering the smooth flow of credit to productive sectors, which could potentially affect growth prospects.
3. Cultural change:
The robustness and effectiveness of the application of legal bank loan collection tools can improve asset quality, but on a marginal scale. The greatest change can only be observed when the whole of society joins in the realization of the importance of a continuous flow of financial resources to finance businesses and thus raise the economy – present and future. This can be done at the local level by imparting financial education, so that the users of the financial system are not only inclusive, but realize their role in building the economy.
The encouraging point is that the majority of our borrowers are good. Although the percentage of stressed assets may change from year to year due to various external factors, 85-90% are good assets. Defaulters are in the minority. Even among the defaulters, a good proportion are creditworthy but are unable to repay loans due to some inconsistencies in business models that could be corrected. Appropriate loan restructuring support will also be needed to maintain them and lift them out of temporary stress.
Major defaults are voluntary and must be educated to become responsible borrowers. Some of the clauses of IBC -2016 are aimed at preventing defaulters from being in business. Once the code is invoked, ownership is at stake which prevents some borrowers from remaining regulated in loan repayments. The borrowing community must come together to educate them, persuade them and convince them to repay loans on time. Unless there is a cultural shift and awareness within the borrowing community to repay loans on time, asset quality issues cannot be resolved. The bad bank may not be a panacea to tackle bad debt evils.
The opinions expressed above are those of the author.
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