Two big private banks get downgraded-- because the Indian government has enough problems at its own banks

• The banking sector is struggling with weak asset quality due to mounting non-performing assets
• Axis's core capital ratio is unlikely to meet the threshold for higher-rated banks, the agency said
• ICICI's core capitalisation is higher than most Indian banks but poses only a moderate buffer against risks

Fitch today slashed the ratings of two of the top Indian private sector banks-ICICI Bank and Axis Bank. Amongst other things, the rating agency is concerned that these private banks might rank low in priority for government support, if they need them.

Why would a private bank need government support? They might if they are too big to fail. While they have not required government support yet, many experts are worried that they might need it in the future.


The country, on the other hand, has too many banks with too many bad loans, and too many of them are too big to fail. A whole bunch of them such as State Bank of India are owned by the government, and are likely to be bailed out first. That puts private banks behind many others on the priority list.

“Fitch believes that the sovereign's constrained finances and the large number of majority government-owned banks that are systemically important and have weak capitalisation means that these banks will have priority in terms of timeliness of government support,” said Fitch in a report where it cut the long-term issuer default rating International Depository Receipts (IDRs) of Axis Bank to BB+ from BBB-.

ICICI Bank’s long-term issuer default rating of IDR was also revised to (IDR) to 'BB+' from 'BBB-'.


Depleting coffers

The rating agency is worried about ‘possible government support’ to these banks as the sector in general is struggling with weak asset quality due to mounting non-performing assets--basically those which are not yielding interest nor repaying loans.

As the number of borrowers who cannot service their loans increases--banks’ core capitalization—or the amount banks maintain as reserve as per the law— is hit. As per the agency, ICICI's core capitalisation is at 12.7%, which is higher than most other Indian banks. But within the current operating environment, that poses only a moderate buffer against risks.

“Axis's core capital ratio is unlikely to meet the threshold for higher-rated banks even if the bank proceeds with the conversion of $400 million of warrants into equity and fresh equity issuance in the near term,” the agency said.


Eco growth

This state of affairs of the banking sector will continue for the next one or two years. This is in spite of the fact that the agency expects high economic growth in the country, with improved business prospects. However, banks should recover from their damaged balance sheets before they take advantage of any growth in the system.

“Banks in India - which remain the biggest credit intermediaries in the country - are positioned to take advantage of this opportunity, provided their damaged balance sheets recover sustainably with the infusion of fresh equity that encourage them to support credit growth in a meaningful way,” Fitch said.

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