Detox treatment

A bad bank will clean the system, but its efficiency will be key

- NACHIKET KELKAR

WHENEVER THE economy slowed, a quick remedy to regain pace was to make banks lend more. It helped businesses expand and consumers buy more, driving up demand for goods and services. Now, however, banks’ headroom to lend has been limited by a mountain of non-performing assets (NPAs).

The pandemic has made things worse. Sectors like travel, tourism, and retail are severely affected. And bad loans across the system are expected to spike. The latest financial stability report by the Reserve Bank of India says the bad loan ratio is likely to hit a 23-year high. “The gross NPA ratio of all scheduled commercial banks may increase from 7.5 per cent in September 2020 to 13.5 per cent by September 2021 under the baseline scenario; the ratio may escalate to 14.8 per cent under a severe stress scenario,” it says.

Finance Minister Nirmala Sitharaman has a plan for stopping bad loans from dragging the entire sector down—create a bad bank. A bad bank is essentially an institution that purchases NPAs from banks, restructures them, and then sells them. It can save banks the trouble of dealing with toxic assets and help them focus on their more important role of lending.

The government has been toying with the idea, but Sitharaman’s announcement in the budget was the first solid step towards it. She proposed that an asset reconstruction company (ARC) and asset management company (AMC) would be set up to consolidate and take over the existing stress debt and then manage and dispose of the assets to alternative investment funds and other potential investors for eventual value realisation. “The solution is coming out of the banks themselves,” she told