NPAs: RBI must name and shame fraudsters, wilful defaulters

On July 24, 2023, a report quoted the RBI's RTI reply saying scheduled commercial banks (SCBs) had written off ₹2,09,144 crore in FY23, giving rise to the question whether the NPA crisis is still simmering in the banking system.

With this, the total write-offs since FY15 – when it spiked following a concerted drive to actively identify and recognise non-performing assets – NPAs have gone up to ₹14.6 lakh crore, of which 68% is by public sector banks (PSBs). That is, an average of ₹1.6 lakh crore is being written off every year for the past nine years. This is 24 times more than the write-offs in the previous nine years of FY06-FY14 – ₹61,039 crore!

Former RBI Governor Raghuram Rajan pushed the banking system through his 2015 Asset Quality Review (AQR). He gave a list of high-profile banking fraud cases to the PMO for investigation and also sounded alarm to a parliamentary panel, headed by then BJP member Murli Manohar.

The Economic Survey of 2020-21 said the AQR "led to a second round of lending distortions", by arguing that it "could not bring out all the hidden bad assets in the bank books and led to an under-estimation of capital requirements". On June 9, 2023, Union Minister Rajeev Chandrasekhar said Rajan "wrecked the entire banking system and the financial sector".

More recently, on July 22, 2023, the Prime Minister said the previous UPA government's "phone banking scam" ("powerful leaders close to a family would call the banks to get loan…those loans were never repaid") which, he said, "broke the banking system of the country”. He also said his government "nursed it (banking system) back through various measures".

RBI Governor Shaktikanta Das says the banking system is now robust. In his foreword to the RBI's Financial Stability Report (FSR), released on June 28, 2023, he wrote "both banking and corporate sector balance sheets have been strengthened", NPAs are at "low levels" and there are "adequate capital and liquidity buffers".

Before getting into the details of these claims, it is more important to know who are these loan defaulters and why their identities are not disclosed.

Who are the big loan defaulters?

The first thing to note is that NPA write-offs involve big individuals and businesses. The RBI's Central Repository of Information on Large Credits (CRILC), set up in 2014 during the previous UPA government, requires banks to regularly report all debts of ₹5 crore and more – for the purpose of early recognition of financial distress or detecting signs of incipient stress.

But their identities are not revealed because Section 45E of the RBI Act of 1934 prohibits it, saying that "credit information" shall be treated as "confidential" and "shall not" be published or otherwise disclosed – outside the banking system. Apparently, this is to protect genuine businesses and the fact that business failures can happen for genuine reasons.

But why should RBI not make public the debtors classified as "fraud" and "willful defaulter" (those who can pay but don't)? These are the ones who divert bank loans, launder bank loans using shell companies and tax havens and at times, also flee the country. Only once has the RBI made public a list of 38 "willful defaulters" who fled the country during 2015-2020. It needs to disclose such lists more often and before they flee – not after. Timely public disclosure of their names could have prevented them from fleeing and made it tougher for banks and law enforcement agencies to allow it through negligence or complicity.

Such public disclosures are all the more necessary after the RBI issued a circular on June 8, 2023, "Framework for Compromise Settlements and Technical Write-offs" – allowing and empowering all financial institutions to offer "compromise settlements" with fraudsters and willful defaulters. Even more shocking, it permits such debtors to avail fresh loans after 12 months – which could cause more fraud and willful default.

Here is how serious the problem is:

• The number of banking frauds jumped 17 times during the nine fiscals of FY15-FY23 to 5,88,744 – from 34,198 in the previous nine years of FY04-FY14. The amount involved nearly doubled (1.9 times) to ₹65,812 crore during the nine years of FY15-FY23 – as against ₹34,904 in the previous nine years of FY06-FY14 (RBI data).

• As for willful defaults, by December 2022, 15,778 of them had accumulated debts of Rs 3.4 lakh crore (as per the RBI registered Transunion Cibil).

An additional problem with "compromised settlements" is no "recovery" after the high haircuts – a double whammy. In any case, the "recovery" by SCBs is not much – 16.6% during the five years of FY18-FY22 (as per a Rajya Sabha reply of March 28, 2023).

In such a situation, the following claims of the FSR seem highly exaggerated:

• "SCBs' gross non-performing assets (GNPA) ratio continued its downtrend and fell to a 10-year low of 3.9% in March 2023 and the net non-performing assets (NNPA) ratio declined to 1.0%" and

• "Macro stress tests for credit risk reveal that SCBs would be able to comply with the minimum capital requirements even under severe stress scenarios".

Remember, the "compromise settlements" came on June 8, 2023, less than a month after the RBI withdrew ₹2,000 notes (May 19, 2023) even while declaring these notes will remain legal tender. The SBI Research then said (on June 19, 2023) this withdrawal would give a net deposit boost of ₹1.5 lakh crore (after partial withdrawal) to banks. Has this really happened? That is not known.

Now recall two precedents.

Following Centre's drive to identify and recognise NPAs, write-offs (corporate loan defaults) recorded a quantum jump after the demonetisation of November 2016 (FY127) – from ₹59,445 crore in FY16 to ₹1,07,823 crore in FY17, ₹1,62,733 crore in FY18, ₹2,36,725 crore in FY19 and ₹2,37,876 crore in FY20 (all pre-pandemic).

Then, on August 26, 2019, the RBI declared a transfer of ₹1.76 lakh crore to the Centre from its reserves and surpluses. Less than a month later, on September 20, 2019, the corporate tax cuts of ₹1.45 lakh crore was announced. For the next two fiscals of FY20 and FY21, therefore, the Centre borrowed (from the RBI) and gave loans to states – ₹1.1 lakh crore in FY21 and ₹1.58 lakh crore in FY22 – in lieu of the GST Compensation.

How bank and corporate balance sheets improved?

Besides, the corporate tax cut caused a loss of ₹1.84 lakh crore in FY20 and FY21 – as a parliamentary panel report said – and for the first time in recent memory, corporate tax collections fell below that of personal income tax. What did corporates do with the tax cut? The RBI said, it was utilised in debt servicing, build-up of cash balances and other current assets – rather than restarting the capex cycle.

So, a part of the improved balance sheet of corporates is due to the tax cut for them.

The bank balance sheets have improved primarily because of four factors: (a) NPA write-off of ₹14.6 lakh crore during the past nine fiscals (b) bank recapitalisation of ₹3.12 lakh crore (c) bailouts of collapsed private banks and NBFCs (like Yes Bank and IL&FS) by public sector banks and (d) the corporate tax cuts of ₹1.45 lakh crore.

All these involve costs to public. There is little role of (i) improvements in banking governance or banking oversight.

The genesis of the NPA crisis was surely in the banking exuberance (high disbursal of loans) witnessed during the previous UPA government. But a few factors should not be ignored.

The UPA years recorded high growth rate since independence – the GDP growth averaged 7.6% (2004-05 GDP series) and 6.8% (2011-12 GDP series). The twin shocks of demonetisation of 2016 and GST of 2017 derailed the economy and the GDP growth plunged from 8.3% in FY17 to 3.9% in FY20 (pre-pandemic).

FY18 saw a dramatic rise in banking frauds, contributing to the collapse of banks and NBFCs (Yes Bank, IL&FS, HDIL, DHFL etc).

On May 31, 2023, the RBI Governor expressed serious concerns at "innovative" ways banks have found to evergreen stressed loans (through restructuring, hiding and changing methods when caught). RBI advised banks to follow the existing banking norms and guidelines. This was followed by its "compromise settlements" circular.

The RBI's other claim about "new credit and investment cycle" brightening the prospects of the Indian economy in its FSR is flawed too. Credit flows inverted in FY20. "Personal loans" overtook credit to 'large industry' in FY20 and 'industry' and services in FY22 – and the trend has continued in FY23. It had overtaken agriculture years earlier. A credit growth driven by consumption loans is not the same as one driven by "real" sectors of economy – industry, services and agriculture – which lead to higher investment, higher productivity and more jobs.