The Indian banking system's bad loans may rise to a 20-year high on the back of COVID-19 induced stress, Reserve Bank of India (RBI) warned on January 11. In its latest Financial Stability Report (FSR), the Reserve Bank said that gross non-performing assets (NPAs) of scheduled commercial banks in India may rise to anywhere between 13.5 to 14.8 percent by September 2021 from 7.5 percent as of September 2020.

"In view of the regulatory forbearances such as the moratorium, the standstill on asset classification and restructuring allowed in the context of the COVID-19 pandemic, the data on fresh loan impairments reported by banks may not be reflective of the true underlying state of banks’ portfolios. This, in turn, can underestimate the impact of stress tests, given that the slippage ratios of the latest quarter for which data is available are the basic building blocks of the macro-stress testing framework," the regulator warned in its report.

"To tide over this limitation, it is necessary to arrive at reliable estimates of slippage ratios for the last three quarters, while controlling for the impact of regulatory forbearances," RBI said.

Baseline scenario

In the baseline scenario assumed by RBI while conducting the stress test, it found that Gross NPAs of banks may rise to 13.5 percent by September 2021.

Public Sector Banks (PSBs) may see gross NPAs rise from 9.7 percent in September 2020 to 16.2 percent by September 2021, as per RBI’s projection. Private Banks’ may see Gross NPAs rise from 4.6 percent in September 2020 to 7.9 percent by September 2021 and Foreign Banks from 2.5 percent to 5.4 percent.

Under the baseline scenario, the report finds that the overall capital adequacy (CRAR) of the banking system may fall from 15.6 percent as of September 2020 to 14 percent. “The stress test results indicate that four banks may fail to meet the minimum capital level by September 2021 under the baseline scenario, without factoring in any capital infusion by stakeholders,” the report said.

Medium stress scenario

In a medium stress scenario, RBI projects that Gross NPAs of all banks may rise from 7.5 percent as of September 2020 to 14.1 percent by September 2021. PSBs may see their bad loans rise to 16.8 percent, private banks to 8.2 percent and foreign banks to 6 percent by September 2021. In the medium stress scenario, RBI has projected that the systemwide CRAR may fall from 15.6 percent to 13.3 percent by September 2021, and as many as 6 banks may be unable to meet the minimum regulatory capital requirement without additional capital infusion.

Severe stress scenario

If the macroeconomic environment worsens even more, then gross NPAs of banks may rise to at least a two decade high of 14.8 percent by September 2021 under the severe stress scenario. RBI projected that PSBs’ Gross bad loans may rise to as much as 17.6 percent, private banks to 8.8 percent and foreign banks’ to 6.5 percent by September 2021. In this scenario, the system wise capital adequacy may fall to 12.5 percent and 9 banks may be unable to meet RBI’s capital requirements, it warned.

The central bank emphasised that the adverse scenarios used in the macro stress tests were stringent conservative assessments under hypothetical adverse economic conditions, and that model outcomes do not amount to forecasts.

"At the aggregate level, SCBs have sufficient capital cushions, even in the severe stress scenario facilitated by capital raising from the market and, in case of PSBs, infusion by the Government. At the individual level, however, the capital buffers of several banks may deplete below the regulatory minimum," the report noted.

"These GNPA projections are indicative of the possible economic impairment latent in banks’ portfolios, with implications for capital planning," the report said.

The central bank added that therefore, mitigating actions such as phase-wise capital infusions or other strategic actions would become relevant for these banks from a micro-prudential perspective going forward.

(Edited by : Abhishek Jha)

First Published:Jan 11, 2021 8:19 PM IST