NPA issue is India's No.1 macroeconomic challenge: Arvind Subramanian

The worsening problem of bad loans is India No.1 macroeconomic challenge, said Chief Economic Advisor Arvind Subramanian.

Speaking to the CNBC-TV18 on the sidelines of Credit Suisse's 20th Annual Investment Conference in Hong Kong, Subramanian said the government was considering steps to remedy the issue and the timing would be decided over the next few weeks.

"The government is acutely aware of the urgency," Subramanian said.

He said the heart of the problem is the extent of the haircuts that the banks would need to take, adding that in any democratic political system, it is difficult to write down debts which favour the private sector.

In India specifically, he said the difficulty was exacerbated by the involvement of large private sector companies and close monitoring by the judiciary and investigation agencies.

Gross non-performing assets (NPAs) of public sector banks increased to Rs 606,911 crore while total stressed assets (gross non-performing assets and restructured standard advances) of scheduled commercial banks were Rs 9.64 lakh crore as on December 31, 2016.

To tackle the issue, there has been growing clamour for the creation of a "bad bank'', which was advocated by Subramanian in the Economic Survey earlier this year. The institution would be along the lines of a public sector asset rehabilitation agency (PARA).

Subramanian said on Wednesday that a bad bank would centralise assets and said the government had considered the idea.

"It's not a perfect solution as creating a new institution takes time," said Subramanian.

Vinod Rai, Chairman of the Banks Board Bureau, said on Tuesday that should the government create a bad bank, it would be essential to empower and capitalise it.

Finance Minister Arun Jaitley told CNBC-TV18 last week that a policy announcement on NPAs would be announced in a "couple of days".

Below is the verbatim transcript of the interview.

Q: What can we expect in the near-term with regard to the resolutions for the big NPA mess?

A: You should not first of all referred to this as an NPA problem, it is a twin balance sheet problem both the corporate sector is over indebted, banks have a lot of stressed assets and it is India’s probably number one macroeconomic challenge. The government is acutely aware of the urgency of tackling this problem. A number of ideas have been discussed and the government is constantly looking at what it should be done. So as the finance minister said, we are going to be taking action on this, what exactly the timing will be, what form that we will see over the next weeks.

Q: The big challenge that even Vinod Rai and NK Singh, Chairman of FRBM Committee spoke to us was that the bigger challenges are going to be the issue of haircut, how much haircut to take, who will take that responsibility, there has been instances in the past when the investigative agencies have pulled up the PSU bank chiefs in the past, is that going to be a big hurdle in terms of resolving the whole NPA issue?

A: That is the heart of the problem. The way I put it is that any democratic political system finds it difficult to write down debts which favour the private sector.

In India there are two additional problems, you have to write down debts, not just to any private sector but to some large private sector firms. If you want to recover the assets. Therefore this is going to be – and on top of that you have the whole the four C challenge, the court, Central Vigilance Commission (CVC), Central Bureau of Investigation (CBI), Comptroller and auditor general (CAG) are all very active and are all looking out for some doubtful decisions that are taken. So that is the heart of the problem. Remember that some of these loans were made -- that should not have been made but some of the loans that were made turnout to be honest mistakes. So we need a way of addressing both these kinds of problems.

Q: You are also part of various committees which are recommending in terms of how to handle this issue. The other big thing is the concept of bad bank. As an adviser to the government, what is your initial take on this whole idea of bad bank?

A: I am generally associated with the idea of the bad bank because in the last economic survey, we argued that this should be the way forward. I am in favour of it but it is an idea that the government is considering among many other options. But I think the bad bank has two-three advantages. One is that it centralises and brings together all the bad assets so that you can have a centralised way of going about it.

Second, there is a greater chance of providing political cover before this decisions to write-down loans with a bad bank, so these are some of the advantages but it is not a perfect solution. Creating new institution takes time so that is a drawback of this. So we will have to – there are so many constraints that we have to optimise within these constraints.

Q: The one big constraint or a critic to this whole idea of bad bank was at what price and how assets will be shifted to the bad bank and that is where probably everybody seems to be uncomfortable.

A: But that is not a problem peculiar to bad banks. That is a problem no matter what you do. You will have to value these loans at fair value. In fact, under the current system, that onus is mostly on the banks themselves and they are very reluctant to do this because they think that if they do anything that is remotely suspicious, they will subject to scrutiny, so it is not something unique to a bad bank.