DNA Edit: Road to recovery

RBI Governor Urjit Patel recently said that the central bank is in talks with the Finance Ministry to unveil the next step in the Rs 2.11 lakh crore recapitalisation plan of the Centre. Earlier, in October, the government had chalked out the plan under which Rs 18,000 crore were to be channelled into banks via government infusion, while Rs 1.35 lakh crore were meant to be raised via recapitalisation bonds. The balance will be raised by the banks themselves by diluting the government stake in these public sector banks (PSBs).

Currently, the eyes of economists and market stakeholders are keenly fixed on the Department of Finacial Services which is expected to release the details soon. In the meanwhile, Patel has rechristened the recapitalisation plan as the reform and recap package, and that suffices in giving a hint on the roadmap that PSBs are expected to follow to receive the government’s infusion. One takeaway from Patel’s comment is that the banks that do not exhibit an appetite for reforms or dither on shedding the excess baggage of toxic loans will not be prioritised for lending. On the other hand, banks that have managed their balance sheets with prudence will be given primacy. This qualified infusion is a judicious step that signals to the banks that the RBI, as well as the government, are not naive enough to throw good money after bad.

Essentially, banks will now have to earn the funds and move ahead with the mindset that they will be salvaged on account of being a PSB. As per Patel’s comments, those banks that are underperforming or lagging will have to show resolve and progress in meeting new standards of reforms. This will hopefully shock a few PSBs into action that are still to get their act together. This is not the first time that the Indian government will be using the recapitalisation modus operandi. Between FY1986 and FY2001, the government infused a total of Rs 20,446 crore. The then government issued special bonds to the PSBs and borrowed money as consideration for those bonds. The government then used the very money it received for those bonds to buy equity shares in the banks. Using this accounting stratagem, deposits in the bank were transmuted into equity capital of the company. From this, both the depositors and the PSBs emerged happily.

Governments of many countries have tried and tested this practice. Hopefully, it will help navigate a way out of this crisis. As per the September estimates, the figure has already crossed beyond the Rs 10 lakh crore figure. Many economists are suggesting that this just might be the tip of the iceberg. If that indeed turns out to be true then the Indian economy is indeed in deeper water than anyone imagined. Despite the grim the situation, there is still a way out of this mess but that depends on the alacrity that banks show in selling off these assets. However, selling these assets expeditiously entails large haircuts, which many bankers are not comfortable with given that the discounts might just be too deep a dent for the balance sheet to bear.