Countering criticism that the recently announced stressed asset framework is too tough, Reserve Bank of India Deputy Governor NS Vishwanathan has argued that the new rules are needed to ensure that the excesses of the last credit cycle are not repeated.
“We don’t want to end up in a similar situation a few years down the line,” Vishwanathan said while speaking at the National Institute of Banking Management in Pune.
In a February 12 circular, the RBI withdrew all existing stressed asset schemes and the joint lenders forum mechanism. Banks were told that they must start working on a resolution plan even if an account is overdue by a day. Failure to come up with a resolution plan in 180 days would lead to the account being referred for insolvency proceedings.
The provisions drew criticism from the government and bankers. Bankers argued that the need to start working on a resolution after one day of default was unfair. The government argued that the need to refer stressed accounts for insolvency after 180 days would lead to a pile up of cases at the National Company Law Tribunals.
Vishwanathan responded to each of these critiques point by point.
Why The One Day Rule?
The concerns around the strictness of the one-day default rule are unfounded, said Vishwanathan. He pointed out that the rule is not applicable for cash credit accounts. In the case of term loans, Vishwanthan argued, repayment schedules are pre-determined and borrowers have enough notice to organise funds in time.
Non-payment on due dates appears to be seen as par for the course by banks and borrowers. This has got to change, Vishwanathan said while adding that it is no longer good enough to pay by the 30/60/90-day overdue mark.
The data shows that a large number of borrowers, even some highly rated ones, have failed on the 1-day default norm. This has got to change.NS Vishwanathan, Deputy Governor, RBI
The deputy governor, however, reiterated that an account would be marked down as a non performing asset only when it was overdue by more than 90 days. There has been no change in that rule.
The 180-Day Deadline For Resolution
The new stressed asset guidelines require bankers to put in place a turnaround plan immediately after the first day of default. If banks are not able to come up with a plan and implement it within 180 days, the case goes for insolvency and bankruptcy proceedings.
The Indian Banks’ Association, in a letter to the RBI and the government, had asked for a 30-day rectification period after the day of default, before they are required to come up with a resolution plan.
However, the deputy governor reminded bankers, that the day of default is a lagging indicator of the stress in the company. Which means that bankers should have been aware of the stress even before the default happened.
Lenders need to be proactive in monitoring their borrowers and be able to identify financial stress using a combination of leading indicators and renegotiation points in the form of loan covenants rather than wait for a borrower to default. Such early identification of stress and loan modifications in response would provide sufficient time for lenders to put in place the required resolution plan.NS Vishwanathan, Deputy Governor, RBI
He also reiterated that the framework is not applicable for small and medium enterprises .
Why Do Away With The JLF?
Another concern surrounding the new rules is the RBI’s decision to do away with the Joint Lenders Forum. Bankers and the government have argued that this leaves them with no forum to discuss a resolution plan, particularly in the case of consortium loans.
Vishwanathan argued that the new framework helps banks by allowing them greater flexibility in tailoring a restructuring plan based on the individual bank’s risk policies. He also said that the impression that the new framework requires all lenders to follow the same recognition and resolution policy for a common borrower is incorrect.
Let me be crystal clear: there is a chatter that the new framework mandates unanimity across lenders but the fact of the matter is the exact opposite. We are not mandating anything on this aspect. In fact, the guiding principle of the framework is to impose as few mandatory prescriptions on the process as possible.NS Vishwanathan, Deputy Governor, RBI
The Big Picture
Vishwanathan, through his speech, also tried to explain the regulator’s thinking behind the new rules. The new framework follows the principle of an “outcome check” rather than a “process check”, he said.
He explained that bankers need to be alive to any increase in risk in their portfolios so they can move quickly and contain the “loss given default” through loan covenants, increased collateral and higher risk premium.
The Reserve Bank believes the framework is necessary to re-enforce the sanctity of the debt contract and ensure the mistakes of the past cycle are not repeated.
Such timely intervention should be second nature to a bank. Similarly, paying dues on time should be the natural behavior expected from a borrower. The revised framework seeks to inculcate such a behaviour in both lenders and borrowers so as to create a credit culture that is conducive to a safe and sound banking system and a vibrant business environment.NS Vishwanathan, Deputy Governor, RBI
While focusing on the mistakes of the past and corrective measures taken to reduce stress in large corporate loans, Vishwanathan left bankers with a cautionary note on risks that may emerge in the future.
One such risk could emerge from the recent rush towards retail loans.
There appears to be taking hold a herd movement among bankers to grow retail credit and the personal loan segment. This is not a risk-free segment and banks should not see it as the grand panacea for their problem riddled corporate loan book. There are risks here too that should be properly assessed, priced and mitigated.NS Vishwanathan, Deputy Governor, RBI
-- With assistance from Ridhima Saxena