cash-flows to avoid ever-greening of loans

Most financial crises occur not from what we know, but from what we don’t know. Given the economic gloom, the industry, Ministry of Finance and banks collectively favour forbearance with a one-time loan restructuring proposal.

But the RBI, which already announced a six-month moratorium to ease borrowers’ burden, should be extra careful to avoid repeating past mistakes. Loan restructuring allows friendly repayment terms, delays debt defaults, and prevents fresh bad loans and high provisioning, which in turn affect banks’ profitability.

But one should pay heed to RBI governor Shaktikanta Das’s warning last year, though in a separate context, when he spoke about the cobra effect, where a well-intentioned solution ends up worsening the problem. More so, because banks once stood as a witness themselves.

Much of the current bad loans problem was a by-product of a similar one-time restructuring exercise a decade ago to overcome the global financial crisis in 2008.

Banks bought time recasting loans year after year, regardless of the borrowers’ credit profile until April 2015, when the central bank cracked the whip. Even now, banks are allowed to restructure loans, but not without designating them as NPAs and it’s this aspect that lenders want the regulator to relax.

From an industry perspective, conceding to the request is critical to their survival, but the RBI should be wary of the underlying stress build-up as banks are shouldering much of the Rs 21 lakh crore economic package via loan guarantees and emergency credit lines.

So the regulator must conduct bank-wise stress tests to determine their realistic resilience and losses they can sustain under adverse Covid-lockdown scenarios.

Besides, a sensitivity analysis of bank balance sheets should assess likely capital depletion and need for capital later. The RBI should also effectively prepare banks on normalising operations when the crisis subsides without overheating the system with aggressive lending as in the past.

Lastly, loan recasts must be tailor-made based on an individual borrower’s cash-flows to avoid ever-greening of loans. Such granularity is essential because hidden risks won’t hide forever.

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