Banking Central | When times are good, be cautious. Hard days could be looming close

RBI Governor Shaktikanta Das

There are enough reasons to cheer for the Indian economy, given the robust figures banks are churning out on the back of strong macro fundamentals, but there could be hard days looming on the horizon.

Last week, the speech of Reserve Bank of India (RBI) Governor Shaktikanta Das at the FICCI-IBA conference offered a good summary of the state of the economy and the banking industry. Both the economy and its financial sector are in a strong position, the governor said, adding that banks look good both in terms of growth and resilience. At a macrolevel too, the economy has seen a rebound of private consumption, he pointed out.

Das listed some data on how well the banks were running the business. There has been good growth in credit to industries and agriculture. Latest RBI data show that the bank credit to agriculture and allied activities remained robust and increased 18.1 percent on a year-on-year basis. Also, credit to industry surged 10.2 percent in July 2024 from  4.6 percent a year ago. Within industry, credit to MSMEs too grew 14.4 percent.

Further, bank credit to industries such as chemicals and chemical products, food processing, petroleum, coal products and nuclear fuels, and infrastructure has been robust in July 2024. The enhanced credit flow to industry, along with an all-time high-capacity utilisation, points to an upturn in the investment cycle, as reflected in the NSO data, the governor said.

Apart from the good credit growth which has, in fact, slowed a bit in the recent months, lower bad loans with the banks have added to the optimism in the sector. The lenders recorded the lowest gross non-performing assets (GNPA) ratio of 2.7 percent in June 2024 since March 2011. The annualised slippage ratio, which measures new NPA accretions as a percentage of standard advances, continued to decline to 1.3 percent at the end of June 2024.

The provision coverage ratio (PCR) too continued to improve to 76.5 percent by end-June 2024. Capital to risk-weighted assets ratio (CRAR) stood at 16.8 percent, much above the regulatory threshold. The annualised profitability indicators, namely, return on assets (RoA) and return on equity (RoE) stood at 1.4 percent and 14.2 percent at end-June 2024, showing continued improvement, the governor noted.

The figures look good so long history doesn't repeat itself.

Banks had seen a spike in bad loans following the credit boom in the early part of last decade following the global crisis when careless lending crept in. One bitten bad, the banks should be cautious this time.

In fact, in some pockets of lending, there are visible signs of stress. Small loans could be considered as an example. As I wrote recently, there are signs of overheating in the microloan portfolios of microlenders which is indicative of a build-up of stress at the lower level of the economy.

Also, the consumer loans, particularly the unsecured loans, are turning riskier for the banks in the backdrop of stress in the job market. There is a direct correlation between rising unemployment and repayment ability of small individual borrowers.

The employment scenario overall doesn’t really look very good at this point. There are a large number of aspiring workers who are struggling to get work. An interesting instance was a recent advertisement for recruitment in the post of a sweeper. The given job description involved cleaning offices in government departments, and pay package was Rs 15,000 per month. The  advertisement attracted around 46,000 applications from postgraduates and graduates alone.  If that's the state of unemployment on ground, then it certainly makes a cause for grave concern for the economic growth momentum to continue.

The India Employment Report 2024 published by the International Labour Organisation (ILO) and the Institute of Human Development (IHD) said nearly 83 percent of the jobless population were aged below 34. A report from the Centre for Monitoring Indian Economy (CMIE) said the unemployment rate rose to 9.2 percent in June 2024, making a sharp surge from the previous month. The Economic Survey 2023-24 said India needed to create 78.5 lakh jobs in the non-farm sector by 2030 to cater to the rising workforce.

The short point is not all is well at the bottom. The biggest chunk of consumers of unsecured credit - both from the banks and from digital lending channels - fall in the 20-40 age group, as per industry experts. This age bracket is highly vulnerable to job market shocks. On the agriculture front, too, fast-paced growth in credit should ring the warning bells to bankers. There are upside risks here as well. A high inflation scenario, potent enough to hurt the purchasing power of households, and high dependency on seasonal factors for irrigation, production and supply, could slam the brakes on the joyride of the lenders.

The gross NPA of the banking industry had shot up to double digits within a few years after the 2008-10 global financial crisis. The RBI had to resort to major clean-up exercise by initiating an asset quality review to identify and resolve the stressed assets in the banking system.

Even the cleaner books that the banks are flaunting today are largely an outcome of large-scale loan write-offs done last decade. Around Rs 10 lakh crore of loans were written off during that period. To sum it up, the banking industry may face headwinds going ahead if the economic growth trajectory doesn’t shape up on the expected lines and if the upside risks are not mitigated.

Some caution, therefore, is warranted in good times.

Banking Central is a weekly column that keeps a close watch and connects the dots about the sector's most important events for readers.