NPAs - Is the worst yet to be seen?

Mon, 18 May Pre-Open

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The health of the banking sector is a make or break factor for any economy. Some of the worst financial crises in the global economy in the last decade find roots in poor banking or lending practices. As such, it would not be wrong to say that the test for banking sector 's efficiency can also serve as a litmus test for its economy. And as far as India is concerned, the results are hardly encouraging.

We have already highlighted the huge ticking time bombs that banking sector and the Indian economy are sitting on - non performing assets. While the markets in the last one year have been too buoyant to take notice of the same, this looming threat cannot be ignored for long. Especially in the light of recent statement by Reserve Bank of India's Governor Mr. Raghuram Rajan that suggests that the quantum of bad loans in the Indian banking system may not have peaked yet.

Now this can have serious implications for an economy like India. A deteriorating asset quality may even jeopardize India's sovereign rating - and will be unfavorable for India's image as an investment destination and economic and market sentiments.

As we all know, much of the bad debt problem in the banking sector is of banks' own making. Indiscriminate lending, misuse of corporate debt restructuring and other unhealthy practices have only compounded the problem. Unfortunately, most of the bad debts are in sectors such as infrastructure, metal and mining etc which are the back bone of the Indian economy. Unless these sectors witness growth and turn around, an economic turnaround seems like a distant dream.

Any revival in Indian economy and hence the capacity of borrowers to pay back debt depends on the pace of economic reforms. And while there are lot of talks and expectations, there is hardly much to show in this regard, as underscored by far from encouraging earnings season.

As suggested in an article in Livemint, apart from the domestic issues such as policy logjam, overcapacity, lack of demand, delayed projects and so on; there is the threat of cheap imports from other economies. In the backdrop of all these issues, investors should be prepared to wait longer and reset their expectations regarding recovery in the banking sector and Indian economy.