The Economic Survey 2021 is highly critical of the audits done by the Reserve Bank of India (RBI), saying events at Yes Bank and Lakshmi Vilas Bank (LVB) showed that the central bank did not spot "ever-greening" carried out in ways other than formal restructuring.
"The recent events at Yes Bank and Lakshmi Vilas Bank corroborate that the AQR (asset quality review ) did not capture ever-greening carried out in ways other than formal restructuring," the survey said.
Ever-greening refers to the practice where a bank gives new loans to pay off an old one to help the borrower escape the non-performing assets (NPA) tag. The practice, widely prevalent, is not in line with the spirit of good corporate governance.
The fact that both these banks had to be rescued by the regulator also goes against RBI’s assumption that the private banks should have been able to raise the required capital after the clean-up, the survey said.
“Had the AQR exercise detected ever-greening, the increase in their reported NPAs should have been in the initial years of the AQR,” the Economic Survey said. “Our analysis clearly shows that most of the non-performing loans were lent and restructured during the forbearance phase. Hence, the RBI audit missed some severe cases of ever-greening by these banks.”
The AQR was initiated to prod banks to disclose the actual bad loans in the banking industry and nudge them into making adequate provisions to avoid a later shock.
On account of the process, the bad loans in the banking system skyrocketed from Rs2 lakh crore to Rs 3 lakh crore in 2015-16 to around Rs 8 lakh crore to Rs9 lakh crore in a period of four to five years. Banks were forced to identify stress signals at early stages and take precautionary measures. But, the Economic Survey warned that even this exercise wasn’t adequate to unearth the full NPA problem and gauge the resultant capital requirement.
To put this amount in perspective, the additional NPAs translated to about 7.9 percent of the total tax revenue over this period, the survey said.
One of the leading private banks, Yes Bank collapsed under the weight of fraud and mismanagement in March 2020. The RBI was forced to prepare a bail-out plan under the leadership of the country’s largest lender by assets, State Bank of India along with a clutch of lenders. The bank has since improved its financial position under a new management.
LVB, too, plunged into a crisis in 2020 after the shareholders voted out majority of directors including the CEO and the capital ratios of the lender worsened. Following this, the RBI announced a merger of the bank with the Indian unit of Singapore-lender DBS.
AQR failed to assess full NPA problem
Further, the survey said while the RBI's asset quality review (AQR) five years ago helped in some clean-up, the whole process significantly under-estimated the extent of bad loans. The AQR process also failed to foresee the resultant capital infusion required by the banking sector post the clean-up, the survey said.
“In reality, the AQR exercise significantly under-estimated the full extent of NPAs as well as the resultant capital infusion that was required to ensure that the bank balance sheets indeed become healthy," it said. In terms of additional (gross) NPAs, public sector banks added about Rs5.65 lakh crores from FY2016 to the end of FY2019.
If the AQR had correctly identified all the hidden bad-quality assets, all the increase in NPAs and the necessary provisioning would have concluded by the deadline of FY2017. “However, the gross NPAs in the Indian banking sector only increased to 11.2 percent by FY2018. A massive surge in loan loss provisioning also occurred in FY2018—a year after AQR was supposed to make bank balance sheets healthy,” the survey said.
Besides, the additional provisions doubled in FY2018. For instance, in FY2016 and 2017, the Punjab National Bank reported additional provisions at Rs 18,145 crore and Rs 15,881 crore, respectively.In FY2018, the additional provisions increased to Rs 31,459 crores. The rise in provisioning depleted banks’ capital, the survey said but added that AQR did some clean-up of balance sheets of banks. However, in most cases, the identified NPAs were smaller in comparison to the loans restructured by banks, the survey said.