Relevance: GS-3: Indian Economy and issues relating to planning, mobilization of resources, growth, and development.

Key Phrases: Credit risk management, Public sector banks, Capital adequacy ratio, GNPAs, Provisioning Coverage Ratio, Monitoring, Inefficient data management, Compliance, Regulatory norms.

Context:

• It is noteworthy that public sector banks (PSBs) have posted improved performance during FY22. Out of 12, 11 have declared results and most of them reflect overall improvement in terms of capital adequacy ratio (CAR), asset quality and profitability and in many other parameters.

Facts

• Many of them have increased the Provision Coverage Ratio (PCR).
  • SBI - 90.2 per cent,
  • Bank of Baroda- 88.71 per cent and
  • Canara Bank- 84.17 per cent.
• The Gross Non-Performing Assets (GNPAs) of
  • SBI stands at 3.97 per cent,
  • Bank of Baroda at 6.61 per cent,
  • Canara Bank at 7.51 per cent
• Amid improving asset quality, higher PCR empowers banks to withstand losses in case they turn irrecoverable.
• Though some delinquent loans on account of Covid-19 must have escaped classification under RBI restructuring schemes, they have not undermined the asset quality improvement.
• Bringing down GNPAs from as high as 14.6 per cent in March 2018 to 7.5 per cent by March 2021, which may further go down in March 2022, is indeed impressive.

Why Credit Risk Management is needed?

• The next challenge for PSBs would be sustaining this tempo of improving asset quality, which will call for consistent efforts to tone up credit risk management (CRM). Better application of technology in CRM, systemic improvements in sourcing credit, monitoring and debt resolution will be the significant milestones.
• Technology intensive innovations in credit management techniques and progressively tightened regulations have strengthened the asset quality ecosystem.
• As components of CRM, the quality of credit origination, rigour in the follow up of credit, and timely use of hand-holding processes (restructuring facilities) to bail out temporary disruptions of borrowers depend upon the internal systemic efficiencies and tools of surveillance of loan portfolio built over a period of time. It also depends upon how the three lines of defence in CRM are strengthened.
• The galvanisation of technology, data analytic support, market intelligence in originating credit, the rigour in proactive monitoring, systemic controls, maintaining the quality of credit and compliance standards will depend upon the related policies and people efficiencies.

Maintaining the quality of credit:

• Given the legacy limitations, diversity in the borrower profile and geographical outreach of PSBs, the CRM systems are evolving to improve asset quality. But how it can be sustained in the long term while balancing the near-term challenges is a moot point.
• The two important parts of CRM are post-sanction activities. i.e.
  • Monitoring of quality of credit
  • Debt resolution after loans become non-performing assets (NPAs)
• Rigorous follow up and ensuring NPA recovery are the only options.
• The quality of credit origination depends on three distinct sources of information i.e.
  • External information from rating agencies and industry sources
  • Information provided by the borrower
  • Marketet intelligence used in credit appraisal by banks.
• CRM governance has to be eventually in sync with loan policies, regulations and exposure norms leading to credit decisions.
• Ensuring the creditworthiness of new loan accounts is critical to keeping the asset quality intact. That is why it is important to calibrate risk appraisal norms to filter poor assets and acquire a creditworthy portfolio.
• The norms and standards of credit appraisal and resultant credit decision will have to be fine-tuned to organisational strengths so that its monitoring and recovery during the life of the loan asset can be enforced.

Challenges to Successful Credit Risk Management:

• Inefficient data management: An inability to access the right data when it’s needed causes problematic delays.
• No group-wide risk modelling framework: Without it, banks can’t generate complex, meaningful risk measures and get a big picture of group-wide risk.
• Constant rework: Analysts can’t change model parameters easily, which results in too much duplication of effort and negatively affects a bank’s efficiency ratio.
• Insufficient risk tools: Without a robust risk solution, banks can’t identify portfolio concentrations or re-grade portfolios often enough to effectively manage risk.
• Cumbersome reporting: Manual, spreadsheet-based reporting processes overburden analysts and IT.

Government Effort to Sustaining asset quality in PSBs:

• Formation of Banks Board Bureau (BBB) for providing autonomy in selecting top leaders.
• Capital infusion plans like Indradhanush.
• Distressing from nonperforming assets (NPAs) with improved loan recovery architecture.
• Empowerment: Autonomy in the internal promotions and talent hunt opening up lateral recruitment for key positions and permitting the issue of employee stock options (ESOPs).
• Framework of accountability: Assigning new framework of performance indicators.
• Manthan 2022 is a continuation of the government’s PSB reform moves starting from Gyan Sangam–I (2015) that brought a set of face-changing reforms— Indradhanush framework.

Way Forward:

• Compliance with regulatory norms should not limit the ability of PSBs to frame their own risk appetite. Sustainability of asset quality will depend on not only faster debt resolution of existing stock of GNPAs but also barring the entry of high risk group of assets into the portfolio.
• Before the new chunk of credit is absorbed, PSBs will have to examine the future implications of cost and capability to follow up such loans, consider state of digital literacy of borrowers to respond to banks’ use of technology in monitoring credit.
• Asset quality is a result of the work of a combination of stakeholders, but the vision and foresight of lenders assume great significance in sustaining competitiveness in the markets.
• An introspection into the credit portfolio mix and timely policy intervention can lead the way for long-term asset quality management.

Source: The Hindu BL

Mains Question:

Q. Discuss the steps taken by the government to sustain asset quality in PSBs. (250 works).