The government proposes to spend Rs 700 billion of tax payers money in recapitalization of PSU banks. PSU banks have been reeling under bad loans caused by poor credit analysis and by weakness in the domestic and global economy post the 2008 global financial crisis. Watch our Two Minutes Concept Series on banks NPA’s and restructured loans.
This is the second time in two decades that PSU banks have come to the stage of recapitalization and uncannily the same industries such as Textiles, Steel and Construction have been some of the largest contributors to the bad loan issues that have weakened the balance sheets of PSU banks considerably. Read our analysis on how PSU banks are facing similar NPA problems they faced in the 1990’s.
This brings us to the question, how long will this cycle of bad loans and recapitlization continue? The government when it recapitalizes banks using tax payers money must also make sure that banks are productive and competitive. One glance at the performance of private sector banks and public sector banks will tell the story of the pathetic performance of government owned banks in looking after shareholder wealth. Chart 1.
The governent wants to recapitalise banks as it wants them to grow credit, which it believes is required for overall economic growth. Bank credit growth at below 10% levels has dropped to two decade lows. However the fact that the government itself is responsible for bank bad loans has still not sunk in to the political class. In Maharashtra you have the Chief Minister wanting to take to task PSU banks for not lending to the agricultural sector!! Where does this leave the tax payer who is funding the bank recapitilisation and the shareholder who is suffering by being invested in PSU banks.
The government has to make banks leaner, meaner and stronger and that requires much more than wasting tax payers money.
On 31st July 2015, the Government framed a long term four year plan for bank capitalization, in which Rs 120 billion has been provided for bank capitalization in addition to Rs.79.40 billion already provided in the budget for fiscal 2015-16. The government also proposes to make available Rs.700 billion as budgetary allocations for four years.
What is the recapitalization plan?
PSU banks are adequately capitalized at present and are meeting all the Basel III and RBI norms. But the Government of India wants to adequately capitalize all the banks to keep a safe buffer over and above the minimum norms of Basel III. Excluding the internal profit generation, which is going to be available to the banks, estimated credit growth rate of 12% for the current year and 12% to 15% for the next three years depending on the size of the bank, the capital requirement for the next four years is likely to be about Rs.1800 billion. Government expects that the emphasis on PSU banks financing will reduce over the years by development of vibrant corporate debt market and by greater participation of Private Sector Banks.
The Government of India proposed to make available Rs.700 billion as budgetary allocations for four years as per the figures given below:
How banks will be benefitted?
Tight NPA management and risk controls in future, significant operating improvements, far-reaching governance reforms and capital allocation from the government can improve PSU banks market valuations. Government expects PSU banks to raise the remaining Rs. 1100 billion from the market after proposing to invest Rs 700 billion. Government also states that it can make extra budgetary provisions in FY 18 and FY 19 to ensure that PSU banks remain adequately capitalized to support economic growth.
The Rs.250 billion capital this year will be allocated through three tranches to meet three different objectives:
About 40% of this amount (Rs 100 billion) will be given to those banks that require support, and every single PSB will be brought to the capital adequacy ratio level of at least 7.5% by FY 2016.
40% (Rs 100 billion) capital will be allocated to the top six big banks, SBI, BOB, BOI, PNB, Canara Bank, and IDBI Bank in order to strengthen them to play a vital role in the economy.
The remaining portion of 20% (Rs 50 billion) will be allocated to the banks based on their performance during the three quarters in the current year judged on the basis of certain performance. This will incentivize them to improve their performance in the current year.