- The article highlights the issue of non-performing assets (NPAs) and suggests solutions to deal with it.
NPA – Issues and proposed solutions
Issues of NPA
- The phenomenal increase in non-performing assets (NPAs) and wilful defaults over the last three years raises serious concerns about the effectiveness of NPA management and its mechanisms.
- Given the potential adverse impact that the increasing incidence of NPAs might cause, it is critical that NPA resolution takes place in a timely manner.
- Policies concerning NPA resolution must address two critical aspects:
- First, how to prevent it occurring at this scale in the future
- Second, how to manage the existing accumulated NPAs
Dealing with NPA – Reactive action plan:
- Till recently, most of the initiatives by the government and the RBI (Reserve Bank of India) had centred on the latter — how to manage the existing NPAs.
- The emphasis was on finding ways to reduce the magnitude of NPAs. This was driven by the idea that bank balance sheets must be cleaned up and restored.
Dealing with NPA – Preventive action plan:
- While it is important to clean up the balance sheet of banks by reducing or eliminating bad loans, it is equally important to think about preventive measures.
- On preventive measures, there is a need for evolving a framework in order to bring transparency into the operation and management of SCBs (scheduled commercial banks), particularly the PSBs (public sector banks), on four major parameters — project appraisal, monitoring, accounting, and auditing.
- Project appraisal: As large loans constitute a substantial portion of the total NPAs, a robust credit appraisal mechanism is very much required.
- Monitoring: As large loans tend to be relatively technically complex, the banks must enhance their technical capabilities to undertake project monitoring effectively.
- Accounting: Greater emphasis must be placed on bringing efficiency and transparency into the accounting system.
- Auditing: Emphasis should be given on strengthening the audit system in banks.
- The above measures can potentially reduce the possibilities of collusion among the officials of the funding institutions and the borrowers.
Need of bad banks:
- On NPA resolution, to deal with the existing accumulated NPAs, there is a need for creating a publicly funded ‘bad bank’ or an asset management company which will deal with the stressed assets of PSBs.
- Based on budgetary support, the Government of India can create a bad bank, with full government ownership and can be majority stake holder with majority shareholding.
- The proposed institution can continue to exist without an expiry date as the NPA problem is perennial.
- The approach should be to formulate a resolution mechanism which will maximize recovery, and thereby, reduce the burden on the banks or the government.
- It can be very similar to the Swedish model where the bad bank bought the stressed assets from the affected banks and sold it at a higher price at the time of economic expansion, when asset prices picked up.
- This way, recovery on the bad loans can be maximised. The life span of the Swedish bad bank ‘Securum’ was 15 years, and it was fully owned by the government.