The risks to the banking sector may have increased in
the last six months, the growth impulse may still be weak, and a close
watch may need to be kept on the level of non-performing assets of
banks; but do not lose heart, for the financial system in India is still
resilient. This is the sum and substance of the bi-annual Financial
Stability Report (FSR) of the Reserve Bank of India (RBI) released on
Monday. Painting a cautious yet an optimistic picture of the state of
the financial sector, the FSR, which is a periodic health-check, clearly
sets out the stress points. The first reaction of the markets to the
U.S. Federal Reserve’s tapering of its stimulus programme may have been
positive but the pace of
withdrawal will be crucial in managing
volatility. The RBI is spot on when it says that national balance
sheets, including that of India’s, need to be strengthened to combat the
effects of stimulus withdrawal programmes of advanced economies. The
global financial system is now accustomed to high liquidity, and the
upcoming squeeze as the U.S. tapers its bond-buying programme could
prove disruptive. The problem for India will be magnified given the
growth slowdown and high inflation, not to mention the uncertainty in
the context of the coming general election. RBI Governor Raghuram Rajan
has rightly flagged this in the FSR, pointing out that a “stable new
government would be positive for the economy.”
Of all
the concerns highlighted in the FSR, the most important one is
obviously related to the health of the banking sector. The RBI’s stress
test has revealed that the total stressed advances ratio has risen to
10.2 per cent of total advances as at end-September, from 9.2 per cent
in March. Though the stress tests assume extreme conditions, the fact is
that the banking system is now groaning under the weight of rising
NPAs. What is worrisome is that the industrial sector, which accounts
for the highest share of restructured advances, is not anywhere near a
turnaround. The five sectors — infrastructure, iron and steel, textiles,
aviation and mining — that together account for more than half of the
total stressed advances, are in deep trouble. The RBI’s stress tests
indicate that the credit quality of banks could deteriorate if the
macroeconomic variables do not improve soon. It is indeed scary when you
consider that the failure of a major company or group could trigger a
contagion in the banking system due to the exposure of a number of
banks. Growth is the only panacea to this problem and that requires bold
moves from the government to push reforms and clear stalled projects.
The moot question is: how much of this is possible in the run-up to
elections?
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