Recapitalisation of banks needs to be done with a clear and structured foresight.
What is recapitalisation?
Re-capitalisation of banks means infusing money into the banks in order to give them the liquidity needed to carry out lending and other banking functions.
On that note, it is a positive sign that the RBI, as the sector’s regulator, and the government, as the principal shareholder of these banks, are in consultations on the problem.
Discussions on the question of time-bound capitalisation of the banks are needed.
Why did the liquidity crunch arise?
The banking sector has recently taken a hit due to the build up of gross Non-Performing Assets (NPAs) which led to liquidity crunch.
NPAs stood at almost a tenth of the total bank loans at the end of the last financial year.
It has also been observed that NPAs are concentrated in Public Sector Banks.
Some PSBs have NPAs in the range of 15 to 24 per cent.
This has resulted in slowdown in bank’s lending to industry, thus holding back private investment in economic growth.
The prevalence of bad loans also presents a serious systemic risk to the financial system.
What are the priorities in this regard?
NPA Problem -Settling the existing bad loans might require banks to write off a considerable sum, which would affect their capital provisioning, thereby requiring re-capitalisation.
But, given that NPAs are over Rs 6 lakh crores, a straightforward recapitalisation of PSBs would greatly strain the government’s fiscal position.
Furthermore, in the absence of deep governance reform, it is far from certain that the problem of NPAs will not recur.
It is essential, therefore, that the structure of any bank bailout be such that future bad behaviour is not incentivised.
Disinvestment - Besides capital infusion by the government, raising capital from the market by dilution of government equity and sales of non-core assets are also being considered.
Dilution of government equity must be accompanied by a reduction in effective government control to make it an attractive buy for the private sector.
Incentive Mechanism -A mechanism to hold poor performer banks accountable and incentivising good ones is needed.
Such an approach will produce a stronger public sector banking system.
Certainly, India cannot afford to throw good money to address the problems of bad money.
