Will 'bad bank' be good for the banking sector?

This helps banks or FIs clear-off their balance sheets by transferring the bad loans and focus on its core business lending activities.

Addressing the media after a long brainstorming session with heads of PSBs in Mumbai on Friday, Piyush Goyal, who temporarily holds additional charge of the finance ministry, said a committee under Punjab National Bank’s non-executive chairman Sunil Mehta, has been formed.

The committee members will include SBI Chairman and one of its Managing Directors and Bank of Baroda CEO who will appraise the desirability of an ARC and frame the possible modalities of its structure and framework in next two weeks.

Idea of bad bank

Early last year, Reserve Bank of India’s (RBI) deputy governor Viral Acharya had suggested two structures – a private AMC with equity participation from banks and global funds and a National AMC with fiscal support from the government.

In the Economic Survey Report 2017, Chief Economic Advisor Arvind Subramanian echoed his views making a case for a centralised Public-sector Asset Rehabilitation Agency (PARA) that would purchase stressed loans (especially the largest and most difficult ones) from banks and then work them out.

There was also a plan to task the National Investment and Infrastructure Fund (NIIF) with the take-over a finding professional management of the stressed assets identified to be viable but languishing because promoters are unable to infuse fresh equity. When asked about the NIIF proposal, Goyal said it was an autonomous body performing a creditable role, but was non-committal on its roping in for the ARC/AMC agenda.

Most of the stressed assets have been identified that could fit into the ARC or AMC structure, the minister said. On how the capital for the ARC/AMC would be mobilised, he said that it was too early to “go to that level”.

Success or Failure?

The concept of a bad bank has been experimented in several countries especially after the financial crisis of 2008-09. It has witnessed some success in places like Malaysia, Sweden, Spain and few other countries.

In theory, the concept works well. However, it must be properly implemented and can probably be the starting-point for broader reforms to turnaround the banking sector, which is the backbone of any economy.

Experts have argued that the existing ARCs whose functions are largely confined to recovering stressed loans through liquidation of asset can’t address the problem.

Former RBI governor Raghuram Rajan also said that it would simply mean the transfer of NPAs from one entity to other. However, the larger focus must be on the ‘Twin Balance Sheet’ (TBS) problem of corporates and banks.

For a bad bank to find success, lenders will require to assign a realistic value to banks’ soured loans and also cooperation from the promoters of those assets.

This would mean banks may have to take hefty hair-cuts or discounts while selling the loans, even at the cost of their profitability. Further, equity may be required from owners and private investors.

Two weeks later, the banking sector might see more clarity on the structure and modalities of the bad bank, if at all the idea gets implemented.

Meanwhile, banks continue to hope improved recovery from the ongoing time-bound resolutions under the insolvency and bankruptcy code (IBC).

If implemented, this may come to aid the 19 public sector banks of the total 21, which have made losses worth nearly Rs 60,000 crore in the January to March period this year.

Strict provisioning norms to set aside capital for bad loans, losses in bond portfolio and a string of scams are straining the balance sheets and finances of most state-owned banks, especially the ones under PCA.

Bad loans or gross non-performing assets (NPAs) with these government-owned banks touched a staggering Rs 10.25 lakh crore as of March 2018.