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The banking business has boomed since Independence, particularly after

the LPG reforms. The sector is currently valued at Rs 115 lakh crore and
expected to more than double at Rs 288 lakh crore by 2020. Out of this 70 per
cent of business is being done by PSU banks. An interesting fact is that SBIs
market share out of total banking business is 22 per cent!
Looking at the enormous size of the banking industry, the NPAs are a big cause
of concern.
We will first look at some of the basics of NPAs; then move on to understand
their causes and implications; then examine the challenges that the banks will
face because of them; and finally put forward possible solutions.


Generally speaking, NPA is any asset of a bank which is not producing any
In other words, a loan or lease that is not meeting its stated principal and interest
On a banks balance sheet, loans made to customers are listed as assets. The
biggest risk to a bank is when customers who take out loans stop making their
payments, causing the value of the loan assets to decline.

Loans dont go bad right away. Most loans allow customers a certain grace
period. Then they are marked overdue. After a certain number of days, the loan
is classified as a nonperforming loan.

Banks usually classify as nonperforming assets any commercial loans which are
more than 90 days overdue and any consumer loans which are more than 180
days overdue.
For agricultural loans, if the interest and/or the installment or principal remains
overdue for two harvest seasons; it is declared as NPAs. But, this period should
not exceed two years. After two years any unpaid loan/installment will be
classified as NPA.

1. Sub-standard: When the NPAs have aged <= 12 months.
2. Doubtful: When the NPAs have aged > 12 months.
3. Loss assets: When the bank or its auditors have identified the loss, but it has
not been written off.

After a certain amount of time, a bank will try to recoup its money by
foreclosing on the property that secures the loan. The way money is recouped is
a highly contentious issue not just with banks but also with Micro-Finance
Institutions (MFIs). We will discuss it later in the article.

Gross NPAs of domestic banks jumped to 4.2 % of total lending by the end of
September 2013 from 3.6 % six months before, according to the Reserve Bank
of India (RBI).
As per a recent warning by the RBI, bad loans (NPAs) could climb to 7% of
total advances by 2015.
In absolute terms, gross NPAs are estimated to touch Rs 2.50 lakh crores by the
end of March this year. This is equal to the size of the budget of Uttar Pradesh.

The biggest chunk of the soured debts is with state-run banks (Public sector
banks or PSBs), which account for two-thirds of loans but 80 % of the bad
This is how the NPA curve has been moving in the recent years, as per a news
report in the Business Standard:

Private-sector and foreign lenders are better placed. Their NPAs in proportion of
their lending is lesser than that of the PSBs.
The higher is the amount of non-performing assets (NPAs), the weaker will be
the banks revenue stream.
In the short-term, many banks have the ability to handle an increase in
nonperforming assets they might have strong reserves or other capital that
can be used to offset the losses. But after a while, if that capital is used up,
nonperforming loans will imperil a banks health. Think of nonperforming
assets as dead weight on the balance sheet.

Here is the impact of the NPAs:

As the NPA of the banks will rise, it will bring a scarcity of funds in the
Indian security markets. Few banks will be willing to lend if they are not
sure of the recovery of their money.
The shareholders of the banks will lose a lot of money as banks
themselves will find it tough to survive in the market.
This will lead to a crisis of confidence in the market. The price of loans,
i.e. the interest rates will shoot up badly. Shooting of interest rates will
directly impact the investors who wish to take loans for setting up
infrastructural, industrial projects etc.
It will also impact the retail consumers like us, who will have to shell out
a higher interest rate for a loan.
All of this will lead to a situation of low off take of funds from the
security market. This will hurt the overall demand in the Indian economy.
And, finally it will lead to lower growth rates and of course higher inflation
because of the higher cost of capital.
This trend may continue in a vicious circle and deepen the crisis.
Total NPAs have touched figures close to the size of UP budget. Imagine
if all the NPA was recovered, how well it can augur for the Indian economy.

RBI governor Raghuram Rajan has recently said that NPAs must be
curbed before the problem becomes alarming.
The rising incidence of NPAs has been generally attributed to the domestic
economic slowdown. It is believed that with economic growth slowing down
and rate of interest going up sharply, corporates have been finding it difficult to
repay loans, and it has added up to rising NPAs. Even finance minister P
Chidambaram stated that bad loans are a function of the economy and hence,
having bad loans during distressed times is very natural.

However, The NPA mess is not entirely because of the reversal of economic
Here we look at the other reasons behind this mess. Basically the whole
problem can be divided into two parts External problems and internal
problems as faced by the banks.

External Factors

Apart from the slowdown in India, the global economy has also slowed
This has adversely impacted the corporate sector in India. Continuing
uncertainty in the global markets has lead to lower exports of various
products like textiles, engineering goods, leather, gems etc. It can be noted
that imports and exports combined equal to around 40% of Indias GDP!
A hurt corporate sector is finding it difficult to pay loans


The ban in mining projects, delay in environmental related permits

affecting power, iron and steel sector, volatility in prices of raw material and
the shortage in availability of power have all impacted the performance of
the corporate sector. This has affected their ability to pay back loans.

Banks in India are highly regulated. Priority sector lending (PSL) is one of
these regulations which require the banks to give a certain % of their loans
to certain sections of society. These are farmers, SCs, STs, IT parks,
MSMEs etc.
Naturally one would assume that the weaker sections covered under PSL are
the ones to be blamed for the situation. However, it is not the case.

As per recent news reports, the Standing Committee on Finance will be now
examining the reasons for high NPAS in PSBs.
The data, shared with the Standing Committee, shows that NPAs in the
corporate sector are far higher than those in the priority or agriculture
Within the priority sector, incremental NPAs were more in respect to micro
small and medium enterprises followed by agriculture.
However, even the PSL sector has contributed substantially to the NPAs.
As per the latest estimates by the SBI, education loans constitute 20% of
its NPAs!

The sluggish legal system (Judiciary in India) and lack of systematic and
constant efforts by the banks make it difficult to recover these loans from
both corporate and non-corporate.

Internal Factors

1. Indiscriminate lending by some state-owned banks during the high growth

period (2004-08) is one of the main reasons for the deterioration in asset
2. Bankers say there is a lack of rigour in loan appraisal systems and
monitoring of warning signals at state-run banks. This is particularly true in
case of infrastructure projects, many of which are struggling to repay loans.
Besides, these projects go on for 20 to 30 years.
3. Poor recovery and use of coercive techniques by banks in recovering

4. The wait and watch approach of banks have been often blamed as the
reason for rising NPAs as banks allow deteriorating asset class to go from
bad to worse in the hope of revival and often offer restructuring option to
A Parliamentary panel, examining increasing incidents of NPAs, has
observed that state-owned banks should stop ever-greening or repeated
restructuring of corporate debt to check the constant bulging of their nonperforming assets. Members of the panel were of the view that NPAs are the
result of bad economic situation, but there were also management issue of
every-greening of loans, which could be avoided by not renewing loans,
particularly of corporate.

Therefore, it can be clearly seen that it is only the economic slowdown that is
behind the NPAs. There are a whole range of factors.

The simplest approach to cut down NPAs is to recover the bad loans.
Apart from the regular guidelines released by the RBI, to strengthen further the
recovery of dues by banks and financial institutions, Government of India
1.The Recovery of Debts Due to Banks and Financial Institutions Act, 1993
2. The Securitization Reconstruction of Financial Assets and Enforcement
of Security Interest (SARFAESI) Act, 2002.
So, how can the banks legally recover their loans?

(i) The Securitization and Reconstruction of Financial Assets and

Enforcement of Security Interest (SARFAESI) Act, 2002 The Act

empowers Banks / Financial Institutions to recover their non-performing assets

without the intervention of the Court, through acquiring and disposing of the
secured assets in NPA accounts with outstanding amount of Rs. 1 lakh and
above. The banks have to first issue a notice. Then, on the borrowers failure to
repay, they can:
Take possession of security and/or
Take over the management of the borrowing concern.
Appoint a person to manage the concern.

(ii) Recovery of Debts Due to Banks and Financial Institutions (DRT) Act:
The Act provides setting up of Debt Recovery Tribunals (DRTs) and Debt
Recovery Appellate Tribunals (DRATs) for expeditious and exclusive disposal
of suits filed by banks / FIs for recovery of their dues in NPA accounts with
outstanding amount of Rs. 10 lac and above. Government has, so far, set up 33
DRTs and 5 DRATs all over the country.

(iii) Lok Adalats: Section 89 of the Civil Procedure Code provides resolution
of disputes through ADR methods such as Arbitration, Conciliation, Lok
Adalats and Mediation. Lok Adalat mechanism offers expeditious, in-expensive
and mutually acceptable way of settlement of disputes.
Government has advised the public sector banks to utilize this mechanism to its
fullest potential for recovery in Non-performing Assets (NPAs) cases.
Among the various channels of recovery available to banks for dealing with bad
loans, the SARFAESI Act and the Debt Recovery Tribunals (DRTs) have been
the most effective in terms of amount recovered.

The recent controversy surrounding loan recovery in India Views of the

Banks have been alleged to engage in coercive practices to recover the loans.
Recently, there have been some judicial pronouncements by the apex court
determining the scope of powers of enforcement of securities without the
intervention of the courts, by the banks and FIs under the SARFAESI Act. The
apex court has reiterated the need to protect the interest of borrowers, and
emphasized that the exercise of extraordinary powers of recovery, by banks and
FIs must be in compliance with the provisions of the SARFAESI Act.

As per the Supreme Court (SC) Liquidity of finances and flow of money
is essential for any healthy and growth oriented economy. But certainly,
what must be kept in mind is that the law should not be in derogation of the
rights which are guaranteed to the people under the Constitution. The
procedure should also be fair, reasonable and valid, though it may vary
looking to the different situations needed to be tackled and object sought to
be achieved.

But, these are steps which cure the disease of NPAs. The issue of NPAs needs
to be tackled at the level of prevention rather than cure.

Therefore, the steps that can prevent the piling up of NPAs are as follows:


Banks need to be more conservative in granting loans to sectors that have

traditionally found to be contributors in NPAs. Infrastructure sector is one
such example. NPAs rise predominantly because of long gestation period
of the projects. Therefore, the infrastructure sector, instead of getting
loans from the banks can be funded from Infrastructure Debt Funds
(IDFs) or other specialized funds for infrastructural development in the

The credit sanctioning process of banks needs to go much more beyond
the traditional analysis of financial statements and analyzing the history
of promoters. For example, banks rely more on the information given by
credit bureaus. However, it is often noticed that several defaults by some
corporate are not registered in their credit history.


Instead of sitting and waiting for a loan to turn to a bad loan, and then
restructure it, the banks may officially start to work to recover such a
loan. This will obviate the need to restructure a loan and several issues
associated with it. One estimate says that by 2013 there will be Rs 2
trillion worth of restructured loans.


Contrary to popular perceptions,the NPA in non-corporate sector is less
than that in the corporate sector. Hence, there is a need to reach out to
people in remote areas lacking connectivity and accessibility. More and
more poor people in rural pockets should be brought under the banking
system by adopting new technologies and electronic means. Innovative

business models will play a crucial role here. Otherwise, the NPAs may
increase instead of decreasing.
As said by the new M.D. of SBI, Mr. Viswanathan proposed ideas such as
a single demat account for all investments and credit cards for school
students (above class 8th) to make them aware with the banking system.

Looking at the giant size of the banking industry, there can be hardly any doubt
that the menace of NPAs needs to be curbed. It poses a big threat to the macroeconomic stability of the Indian economy. An analysis of the present situation
brings us to the point that the problem is multi-faceted and has roots in
economic slowdown; deteriorating business climate in India; shortages in the
legal system; and the operational shortcoming of the banks. Therefore, it has to
be dealt at multiple levels. The government cant be expected to rescue the
state-run banks with tax-payers money every time they fall into a crisis. But,
the kind of attention with which this problem has been received by
policymakers and bankers alike is a big ray of hope. Right steps, timely and
concerted actions and a revival of the Indian economy will put a lid on NPAs.
Prevention, however, has to become a priority than mere cure.

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