Editorial Today – Financial Stability Report

Issue The Reserve Bank of India has released the Financial Stability Report (FSR)

What is Financial Stability Report (FSR) The FSR reflects the overall assessment on the stability of India’s financial system.

Corporate balance sheets FSR offers a glimmer of hope that corporate balance sheets are starting to heal.

What inference can be made from above indicators These indicators show that companies are slowly starting to bring their debt levels to more manageable levels.

How credit quality of corporate improved Data shows, much of the repair work has happened in the past six months alone.

Limitation of asset selling Asset sales can only go so far in helping improve the quality of corporate credit.

Which sector contributes most to stressed loans Infrastructure, metals and textile sector have contributed most to stressed loans.

India’s banking Sector FSR has painted a grim picture about the state of India’s banking sector.

What government should do Even as companies and businesses de-leverage, it is the banking sector, especially public sector banks, which account for 70 per cent of the overall banking in the country, that needs more attention from the government.

Conclusion

Issue

The Reserve Bank of India has released the Financial Stability Report (FSR) June 2016, a biannual publication and the thirteenth in the series.

What is Financial Stability Report (FSR)

The FSR reflects the overall assessment on the stability of India’s financial system and its resilience to risks emanating from global and domestic factors.
Besides, the Report also discusses issues relating to development and regulation of the financial sector.

Corporate balance sheets

FSR offers a glimmer of hope that corporate balance sheets are starting to heal.
One of the findings of the FSR, released this week, was that the subset of companies that fall into the “leveraged” category has declined in the past six months.
(Leveraged category- These are companies that either have a negative net worth or have debt that is more than two times their equity base.)
The percentage of firms that fell into category of “highly leveraged” companies has also fallen.
(Highly leveraged companies- Debt levels were more than three times their equity base.)
The second important takeaway from the report is that the proportion of debt that is held by firms that are either leveraged or highly leveraged has come down. This means that a lesser amount of bank loans and other forms of debt is now held by companies with precarious financials, and that is good news.

What inference can be made from above indicators

These indicators show that companies are slowly starting to bring their debt levels to more manageable levels.
The corporate sector stability indicators show “that the overall risks to the corporate sector, which increased after the global financial crisis during 2007-08, have shown some moderation in 2015-16.

How credit quality of corporate improved

Data shows, much of the repair work has happened in the past six months alone.
This is the period over which banks were forced to classify stressed assets as bad loans. In the attempt to limit the hit to their own balance sheets, banks have pushed companies to sell assets. This is a key reason why corporate credit quality may have seen some improvement.

Limitation of asset selling

Asset sales can only go so far in helping improve the quality of corporate credit. It will help most in cases where companies or groups had expanded into a number of non-core business verticals, which they can shed.
A broader improvement in corporate credit quality will only follow an improvement in corporate earnings that will help strengthen the ability of companies to service their loans and cut back on their short-term debt needs. The RBI acknowledged that a full recovery is some time away and said that “risks due to lower demand and liquidity pressure remain.”

Which sector contributes most to stressed loans

Infrastructure, metals and textile sector have contributed most to stressed loans in the banking sector, while retail loan segment continues to be the least stressed.
The FSR said the infrastructure sector contributed to 32.8% of the total stressed loans followed by metals at 13.6%, textile at 6.9% and engineering and food processing at 5.3% each.

India’s banking Sector

FSR has painted a grim picture about the state of India’s banking sector.
The risks to the sector have increased since the last FSR in December. The level of gross non-performing advances (or GNPAs) has risen sharply from 5.1 per cent in September 2015 to 7.6 per cent in March 2016.
This is because the asset quality review pushed by the RBI, which involves re-classification of restructured advances to NPAs.
According to the FSR, even at baseline assumptions, the GNPAs are likely to rise to 8.5 per cent by March 2017. But if the macroeconomic situation worsens — for instance, if growth falters — the GNPAs could swell to 9.3 per cent by March, to double the level of GNPAs since September last.

What government should do

Even as companies and businesses de-leverage, it is the banking sector, especially public sector banks, which account for 70 per cent of the overall banking in the country, that needs more attention from the government.
There are two broad things that the government must do. One, it needs to propel growth by raising capital expenditure because the private sector is still too weak to take the lead in investments. Moreover the government must focus on removing any administrative and policy hurdles that have led to stalled projects and, in turn, to GNPAs.
The second thing the government must do is to take targeted measures to ensure that PSU banks do not get mired in such a mess in the future. For this, the government must push for structural reforms in the governance of bank boards

Conclusion

The overall assessment then is: “India’s financial system remains stable, even though the banking sector is facing significant challenges.”