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This is why India’s banking system is in such chaos

This is why India’s banking system is in such chaos

The Economic Survey 2016-17 was presented by the Finance Minister Arun Jaitley in the Parliament today. According to the survey, India has been aiming at solving its ‘Twin Balance Sheet’ (TBS) problem and so far, they have seen a limited success. The problem still exists as the Non-Performing Assets (NPAs) of the banking system keep increasing, while credit and investment keep falling. The Economic Survey, however, suggested considering a different approach and recommended a centralised Public Sector Asset Rehabilitation Agency (PARA) that could take charge of the largest, most difficult cases, and make politically tough decisions to reduce debt. The Economic Survey highlighted the fact that the India’s banking system is in deep trouble and here’s why we need PARA:

Public discussion of the bad loan problem has focused on bank capital but far more problematic is finding a way to resolve the bad debts in the first place.

Some debt repayment problems have been caused by diversion of funds but the vast majority has been caused by unexpected changes in the economic environment after the Global Financial Crisis, which caused timetables, exchange rates, and growth rate assumptions to go seriously wrong.

This concentration creates a challenge since large cases are difficult to resolve, but also an opportunity since TBS could be overcome by solving a relatively small number of cases.

Restoring them to financial health will require large write-downs.

Among other issues, they face severe coordination problems, since large debtors have many creditors, with different interests. And they find it hard –financially and politically—to grant them sizeable debt reductions, or to take them over and sell them.

It increases the costs to the government since bad debts of the state banks keep rising, and increases the costs to the economy, by hindering credit, investment, and therefore growth.

Since, private run Asset Reconstruction Companies (ARCs) have not been successful either in resolving bad debts, though international experience (especially that of East Asian economies) shows that a professionally run central agency with the government backing could overcome the coordination and political issues that have impeded progress over the past eight years.

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