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Pursuit of growth

 

Context:

The Centre on Tuesday unveiled an ambitious plan to infuse Rs. 2.11 lakh crore capital over the next two years into public sector banks. The move is vital for the slowing economy, as private investments remain elusive in the face of the “twin-balance sheet problem” afflicting corporate India and public sector banks reflected in slow bank credit growth.

This would be funded through budgetary provisions and the sale of recapitalisation bonds worth Rs. 1.35 lakh crore. The balance would be raised by the banks themselves by diluting the government’s equity share.

Need for recapitalisation

  • Saddled with bad loans as well as stressed assets of close to Rs. 10 lakh crore, India’s banking sector has been naturally wary in recent quarters of extending fresh loans, as reflected in bank credit growth slipping to a 60-year low of just 5% this April.
  • If over-leveraged companies are unable to invest or borrow afresh, and banks are unwilling or/and unable to finance fresh investments, a private investment-led recovery is unlikely.
  • The government from the very beginning has been seized of what is called  the twin balance-sheet problem. Recapitalisation is essential to overcome this problem.

What is in the loop?

  • The three-part package for lenders includes Rs. 18,000 crore from the Budget, Rs. 58,000 crore that banks can raise from the market (possibly by tapping the significant room available to dilute the government’s equity that remains well over 51%) and the issue of recapitalisation bonds worth Rs. 1.35 lakh crore.
  • Though there are still many unknowns about the nature of these bond issues (whether they will affect fiscal deficit calculations or be off-balance-sheet sovereign liabilities, for instance), the overall plan gives banks a better sense about their immediate future.
  • The bonds will front-load capital infusion while staggering the fiscal impact, which Mr. Subramanian expects to be limited to the annual interest costs on these bonds of about Rs. 9,000 crore.
  • The Centre is betting this will strengthen the banks’ ability to extend credit at a faster clip.
  • While more details on this package are awaited, including how banks will be picked for funding and the possible interplay with proposed mergers of banks, equally critical will be the reforms that Finance Minister Arun Jaitley has promised as a necessary adjunct.