General Studies for Civil Service Exams – 2

Scourge of NPA –Will the ‘Bad Bank’ banish it?

Introduction … Banks have bad loans of various sizes in their books. Since, neither interest, nor instalment payments are paid by the borrowers to the lending bank, such loans weigh down the lenders in many ways making them very wary of such bad loans. The ways the banks suffer due to these bad loans are…

1. Every year, banks have to provide for these nin-performing loans in their balance sheets. As a result, some part of their well-earned profit gets eaten up.
2. A good part of the productive time of the top managers goes chasing the borrowers for repayments, or initiating some such coercive measures to ensure repayment. With this burden in their heads, they can’t much time to grow their businesses or look after healthy account’s needs.
3. With high NPAs, the banks’ perception in the market suffers. They find it hard to raise capital in the open market.
4. Most importantly, banks become risk-averse and so, shy away from giving loans to deserving borrowers.

At 9.25 % of their total lending locked up in NPAs, Indian banking system is the second worst performer in the world. The government had decided in the 1920-21 budget to separate all the NPAs (Outstanding amounts in excess of Rs.500 crores per account) and bring them together under the umbrella of a ‘Bad Bank’.

It was felt that transferring the NPAs to the Bad Bank could disentangle the banks, and enable them to grow their business whole-heartedly. They could raise fresh capital from the markets, and look after their existing and prospective borrowers more efficiently.

The Bad Bank was named NARCL (National Asset Reconstruction Company Ltd). The central government would give it a Bank Guarantee limit of Rs.45,000 crores to help it offer similar guarantee to the bankers selling off their sick assets to the Bad Bank.

When a bank passes on its troubled asset to the Bad Bank a price of the asset is fixed by the Bad Bank. It pays upfront 15% of the agreed amount to the seller bank. For the rest 85%, the Bad Bank issues Fixed Deposit receipts. These instruments are covered by the central government using the bank guarantee facility at the disposal of the Bad Bank.

After the asset is taken possession of, the NARCL (Bad Bank) approaches the India Debt Resolution Company Ltd (IDRCL). The latter tries to add value to the asset bin various ways like making it appear as a going concern, or sprucing it up. Then the IDRCL finds a buyer for it and sells it. If there is a shortfall in the price realized and the initial price NARCL had agreed to pay to the selling Bank, the bank guarantees issued by the NARCL can be invoked. Also, the banks are obliged to wait for five years fore the resolution pro cess to be completed before they invoke the bank guarantees. In some cases, the realized value might exceed the original value agreed to between the NARCL and the bank.

If the NARCL and the IDRCL work with alacrity, and professionally, the NPAs issue will get resolved, although the original bank will invariably take a haircut.

To begin with, the National Asset Reconstruction Company Limited (NARCL) will pitch to take over toxic assets worth ₹90,000 crore that banks have already fully provided for.

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