The RBI’s Next Move: Extended Moratorium, Restructuring Or...

The once-extended moratorium on loan repayments, first offered at the end of March, will run out by end-August. But economic conditions are far from normal and a return to ‘business as usual’ or BAU is wishful thinking.

So the RBI has a choice to make:

• Should it extend the moratorium again?
• Should it end the moratorium but replace it with a one-time restructuring scheme?
• Should it do nothing and allow bank balance sheets to reflect underlying economic realities?

Earlier this week, senior bankers chimed in on this debate. Deepak Parkekh said that the moratorium is being partly misused and should not be continued. But the RBI should consider a one-time restructuring scheme, he said. Uday Kotak did not offer his personal view but said that there is a growing feeling among industry that there is a need for a one-time restructuring scheme. Sanjiv Bajaj also told CNBC TV-18 that extending the moratorium may lead to moral hazard. He, too, said a one-time restructuring scheme should be considered.

That aside, perhaps a look at the available data will give us some clues into the relative efficacy of both those options and a third option available to the RBI – which is the ‘do nothing’ option.

Moratorium: Diminishing Utility

The RBI’s financial stability report released last week gave some insights into the use of the moratorium in the first phase.

At the headline level, 50% of total outstanding loans were under moratorium of as April.

1. The highest share of moratorium loans was in the MSME category at 65%. A little over 55% of individual loans were under moratorium and 41.9% of corporate loans were under moratorium.
2. In the corporate category, for private banks 19.6% of loans were under moratorium. The share was much higher for NBFCs (56.2%) and for PSBs (58%).

That was in April.

System-level data for June is not available. The handful of private banks and NBFCs that have disclosed moratorium data report that the share of loans under standstill has come down.

Why has it come down? That’s debatable. Analysts believe that lenders have tightened the criteria to approve moratorium requests. Some lenders such as Kotak Mahindra Bank have clearly said so. They explained that they are now taking a call by looking at the underlying viability of a business rather than considering only short-term disruptions.

Some of the decline in moratorium numbers may also be organic as businesses pick-up and customers realise the perils of allowing compound interest to pile up.

Either ways, if one assumes—going by the few examples available—that the system-wide moratorium numbers in June fell compared to April, then the utility of an extended moratorium is already coming down. It will likely fall further given that banks have complete discretion on offering it and may become even more reluctant with time.

Restructuring: The Next Step?

So then should the RBI just consider a one-time restructuring scheme, which offers some relief either on asset classification or on provisioning?

A few arguments stack up against such a move.

First, if you go by the April moratorium data, it was the MSME sector that needed the most hand-holding. For this segment, the RBI has already provided relief. MSMEs that were standard as of January 2020 can restructure their loans until December 2020 without being downgraded to non-performing loans. This relief is available for MSMEs with outstanding credit of up to Rs 25 crore.

So the most vulnerable section of the economy already has relief in place.

As such, any additional scheme will benefit the large corporates. The experience of the last round of corporate restructuring is well documented. The representative data below from Macquarie Securities is fairly instructive on the eventual impact of restructured loans.

The counter argument being made in favour of restructuring is that the pandemic has brought on the first recession that India has seen in nearly four decades and the regulator can’t afford to be rigid in a scenario like this.

Is there a mid-way solution the regulator can find to provide relief without slipping back into the restructuring abyss?

One suggestion, detailed in this article, by authors Harsh Vardhan and Shishir Mankad is to stretch out the provisioning schedule against restructured assets but ensure that there is an asset classification downgrade.

Another suggestion came from EY’s Abizer Diwanji. He suggested a back-ended classification change. Diwanji explains that you can restructure an account and classify it as a ‘restructured standard account’ under the condition that 15% of the restructured principal is repaid in two years. If it isn’t, the account can be downgraded into NPA category. Together with this, he also suggests that any additional debt given to these companies should be treated as priority debt. This will ensure flow of credit to them. Diwanji also suggests reverting to the 15:85 rule for asset reconstruction companies, which will incentivise banks to offload stressed assets to ARCs, which can then proceed with the restructuring of an account.

Apart from the above suggestions, the RBI can also allow sector specific restructuring, say for aviation or hospitality, which have been particularly hard hit by the pandemic. But that is the least desirable option given that it will open up the regulator to a variety of pulls and pressures.

The Third Option: Do Nothing More

The regulator does have the option to do nothing more. It can allow the moratorium to lapse and not announce any special restructuring schemes beyond what is available to MSMEs.

Taking this route will mean that NPAs will build up. The RBI’s FSR has already given some sense of what levels bad loans will move up to. Under the baseline scenario, where growth is assumed at -4.4%, the gross NPA ratio may rise to 12.5%. In a severe stress scenario of a 8.9% contraction in the economy, the gross NPA ratio may rise to 14.7%.

More than the level of NPAs, what is important is the banking system’s capacity to absorb the stress.

To this end, the RBI has already handed banks a six-month window via the moratorium to raise capital from the market before bad loan ratios rise and spook potential investors. In a lucky turn of events, markets have cooperated, allowing for banks to raise capital.

Unfortunately, much of this is being raised by private lenders and the question of capitalisation of public sector banks has not yet been addressed. But if the government were to provide adequate capital to its banks, the regulator may actually be able to allow the financial system to adjust to the realities of the pandemic without making too many concessions.

That ‘do nothing more’ scenario would be ideal.

Ira Dugal is Editor - Banking, Finance & Economy at BloombergQuint.