Show: Why a new ‘Bad Bank’ when there are 28!

After years of laughing, bankers become proactive. This time around, it is not a new-found aggression to lend, but to foreclose their bad loans to taxpayers.

A “Bad Bank” is once again proclaimed a panacea for industrial disease, once again. This time in anticipation of defaults following the lifting of the moratorium granted to overcome the Covid-19 stress instead of placing the bad loans ceased. Once the banks’ bad loans are transferred to the newly created entity, banks would turn agile again and fuel economic growth with new credit.

Many countries have followed such models, including Sweden, Indonesia and Ireland. In its simplest form, it sells the bank’s non-performing loans to the bad bank, so that the bank’s financial conditions are sound and attractive. Also, India discussed it shortly after the 2015 Asset Quality Review revealed how banks papered over rotten assets.

If it’s a matter of selling bad loans to another entity, why not sell to assets that perform almost a similar function. The counter is that the past experience has not been encouraging and that they are ineffective.

What has been the experience with the 28 ARCs. The recovery rate looks insignificant compared to their values ​​as they stood on the banks books.

Average recovery for 15 years between 2004 and 2019 has varied between 2.4 percent and 21.5 percent of book value as assessed by banks, data from Reserve Bank of India shows. In just one year – 2010 – it was over 20 percent.

But the recovery rate data based on the value assigned by the ARC whale they bought a bad loan from a bank tells a different story.

The recovery rate compared to the rate at which the ARCs bought loans from banks was more than 40 percent in 10 of the 15 years. In some years like 2009 and 2010, it was more than 90 percent.

Essentially, the asset values ​​of the banks’ books were inflated too high. Even a bad bank cannot solve the mismatch between the asset value.

“The recovery result when measured in terms of the securities receipts issued (that is, after accounting for the rebate to the total bank claims) is generally better,” said the RBI’s Financial Stability Report for June 2019. quite impressive, it seems that the recovery result in some recent years is on the decline. ”

While the ARC model precedes the introduction of the insolvency and bankruptcy rules, making the data less relevant, what is the reality of the transparent bankruptcy process.

The aggregate requirements since the Insolvency Act came into force show that nearly 43.15 percent of financial creditors’ claims can be realized, data from India’s Insolvency and Bankruptcy Committee shows. It has since worsened in the December quarter by Rs. 23,668 crores claim probably realizes Rs. 2,878 crores or 12.16 per cent.

Experience at both the ARC level and bankruptcy court decisions shows that the ‘asset value’ in banks’ books is a barrier to decisions rather than the absence of a tool.

How does a bad bank help in the given scenario? First, it needs capital. Anyone who invests in it will look for returns.

Would banks sell an asset at the probable market or realizable value that the previous data reflects? If so, why not sell them to ARCs with a similar mechanism? The discussion also involves the government owning a stake in the bad bank after it already threw Rs. 2 lakh crores in state banks between fiscal year 2018 and 2019. Private lenders such as Axis Bank. IndusInd Bank, and Yes Bank has also raised billions of dollars in equity over the last few years.

The experience of bad loans shows that the case for a new bad bank is very weak. But if the industry still thinks it could emerge a new era, it should go for a market-oriented private equity solution that funds the bad bank rather than dragging the government in.

The case for using taxpayer money to feed the poor is stronger than dragging them into a bad bank.

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