Asian, Indian banks remain sheltered from West crisis..for now

The central business district of Singapore.

Asian and Indian lenders have been largely unaffected by the crisis of confidence that has led to the collapse of regional banks in the United States as well as taking down the 167-year-old Swiss banking behemoth Credit Suisse.

Analysts cite limited funding risks, higher retail deposits and more capital as supporting factors. In addition, a greater degree of government ownership in the region also provides confidence in times of uncertainty.

“Liquidity strains stemming from deposit flight have resulted in some duress across US and European banks,” Chang Wei Liang, FX and Credit Strategist at DBS Bank said in an investor note over the weekend. “However, we see limited risks of contagion to Asian banks, given different business models and risk factors.”

Liang said that deposit funding for Asian banks should be “extremely resilient” with a high number of insured depositors. The lower interest rate volatility and smaller investment holdings also limit scope for unrealized losses in the banking book, he added.

Asia’s banking systems do not face similar challenges to those of US regional banks, as banks tend to have limited long-duration assets and most loans are floating rather than fixed, according to Morgan Stanley.

The Bank for International Settlements last week said that the recent events further highlight the importance of a resilient global banking system underpinned by effective bank governance and risk management practices, robust regulatory standards, and strong supervision supported by proactive cross-border cooperation.

After the Global Financial Crisis, interbank contagion risks are quite small, especially for Asian banks which are less dependent on offshore funding, DBS said.

“For one, important regulations on counterparty risk management have been introduced with attention to the topology of links between banks, as mentioned by (former Federal Reserve Chair and current US Treasury Secretary) Yellen,” DBS’ Liang said.

“Second, large, systemically important banks also face higher capital, liquidity, and supervisory standards today. The global financial system is unequivocally more insulated compared to 2008.”

Since the Great Financial Crisis of 2007-2009, the Basel III reforms have helped the global banking system absorb different shocks and continue to lend to creditworthy households and businesses.

From 2011, banks’ leverage ratio has increased from 3.5 percent to 6.5 percent, while their risk-based Common Equity Tier 1 ratio has improved from 7 percent to 13 percent, according to the BIS.

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While probes are ongoing into the US and European banks’ failures, authorities in Asia have expressed confidence that the contagion is unlikely to lead to similar runs on the banks.

Germany’s banking regulator last week said that while there was no direct risk to Europe’s banking markets, there was the danger of a “contagion via psychology of markets.”

On Friday, shares of Deutsche Bank plunged as hedge funds reportedly went short on the lender that has just emerged from a years-long restructuring of its business.

Banking sector woes have led to the paring of bets on further monetary tightening in the US and Europe, with many expecting rate cuts from the middle of this year.

However, the collapse of Silicon Valley Bank and Signature Bank is unlikely to impact the Indian banking sector as Indian banks have high capital adequacy and a very large share of assets under management, former NITI Aayog vice chairman Rajiv Kumar told Moneycontrol last week.

Indian comfort

Indian lenders benefit from most of the attributes that come to the aid of Asian lenders.

They are well capitalised.  Even under a so-called severe stress scenario, the capital adequacy ratio of banks was likely to remain within the mandated range, according to the Reserve Bank of India.

The system-level capital to risk-weighted assets ratio (CRAR) in September 2023, under baseline, medium and severe stress scenarios, is projected at 14.9 percent, 14.0 percent and 13.1 percent, respectively, against the requirement of 10 percent.

More importantly, the average liquidity coverage ratios of the Indian banks stood at a healthy 133 percent as of March 2022. Unlike the US regional lenders, their resources are mostly from household deposits with corporate deposits playing second fiddle, according to Societe Generale’s Kunal Kumar Kundu.

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Unlike the Silicon Valley Bank, which offered zero-interest on deposits until recently, the deposit rates of Indian banks have moved up sharply in response to the RBI’s policy-rate hike, likely ensuring stickiness of deposits and insurance against outflows, he added.

Over the weekend, Finance Minister Nirmala Sitharaman chaired a meeting to review the preparedness of public sector banks in wake of the stress in banking systems in the US and Europe. The review focused on PSBs’ preparedness along with due diligence through adherence to the regulatory framework by focusing on risk management, diversification of deposits and assets base.

The state-run lenders must look at their business models closely to identify stress points, including concentration risks and adverse exposures and use this opportunity to frame detailed crisis management and communication strategies, the finance minister told bankers.

Banks told the government that they continue to focus on robust asset-liability and risk management and that they are taking all possible steps to safeguard themselves from any potential financial shock.  All the major financial parameters indicate stable and resilient PSBs with robust financial health, lenders assured the finance minister.

Banks that have not adequately hedged interest rate risk, are likely less of a worry in India than elsewhere given that the rise in interest rates since last year has not been especially steep, according to Capital Economics.

Moreover, just like the Fed, the RBI’s rate-setting panel is expected to halt its interest rate rises going ahead against the earlier anticipation of a string of more rate hikes.

Still, on the assets side of balance sheets, a high ratio of non-performing loans and low regulatory capital are causes for concern, according to Capital Economics.

Loss absorption capacity – the loan loss rate needed to reduce the tier 1 capital ratio below the regulatory minimum of 4.5 percent – is lower in India than in other emerging markets. In a handful of banks, the loss absorption capacity is as low as 5 percent, it added.