Recently, scheduled commercial banks (SCBs) have been announcing their results where Covid-19 provisions are on the rise, excess reserves are on their financial statements, slow loan growth is being witnessed across banks (5.8% y-o-y, loan growth from Jul 2019 1 ), loan growth over the lockdown and intermittent unlock i.e. March 13, 2020 - July 17, 2020 has been 0.78%, unlike 1.07% between the period in Mar-Jul 2019.

Deposits (Time and Demand) have increased 5.11% over the period Mar 13, 2020 – July 17, 2020 (compared to a 3% deposit growth between Mar 2019 – July 2019) as people are preferring liquidity over spending.

Let us take a quick recap on the events over the past few months, the RBI introduced a flurry of measures to help maintain liquidity in the system by providing banks and financial institutions with liquidity windows, offering TLTROs to NBFCs, credit guarantees on loans, moratorium on loans, slashing 115 points from the (repo) policy rates etc.

However, once the gradual unlocking has begun the main focus of the policy is to help revive economic activity and support banks & financial institutions to begin lending on full scale. Another important factor is to provide a one-time restructuring window to borrowers, so that as soon as the moratorium lifts, the loans do not turn non-performing affecting the lenders financial stability.

The reason I am stressing over a one-time restructuring window is that a recent Financial Stability report (FSR) 2 released by the RBI suggests that as on 30 April 2020, 67.9% of the total outstanding loans (value-wise) for Public sector banks were under moratorium, 31.1% of the total outstanding loans (value-wise) for Private sector banks were under moratorium,  49% for NBFCs, and 62.6% for Small Finance Banks.

Now one, needs to understand that these numbers are not small. The Scheduled Commercial bank credit outstanding as on 26 April 2020 was INR.96,209.45 billion and  roughly 50% of this amount is under moratorium (according to the FSR). Although bank earnings calls and commentaries have been vehemently suggesting that most of the individual customers who have availed moratorium have received salary or credits, businesses have adequate self-funding, but the question remains, if they are adequately funded, then why don’t they pay and stop the moratorium. Majority of the customers who had availed the 1 st moratorium are the same set of customers who have continued to avail the 2 nd moratorium.

This client behaviour although justified during the pandemic (to conserve money), leaves one to ponder. With the last moratorium ending on 31 st August 2020, will these customers be in a position to service their loans.

Probably, the answer for this is going to be a big “NO” for majority of the clients. The reason behind it is that numerous sectors - automobiles, hotels or hospitality, tourism, cinema halls, malls, real estate have suffered revenue loss due to the lockdown.

Auto sales witnessed a 51% drop in domestic sales to 1.09 million units (June 2020) from 2.25 (June 2019) (Source: SIAM).

On the production front also, the picture is not rosy either - the IIP in May 2020, was reported at 88.4 3 compared to 53.6 in April 2020. It would be inappropriate to suggest a growth on a year on year basis, as many industrial units were not functioning during the lockdown.

This suggests that our economy on the whole is facing a dire revenue loss situation, allowance of a one-time loan restructuring to these stressed borrowers is a welcome stance, however, the RBI has not put up a very detailed framework for the same. It was expected that they would announce a sector-wise client evaluation framework for this one-time restructuring window under a strict supervision (to avoid the legacy issues of restructuring loans).

Although, RBI has already tried to provide relief to MSMEs (largest moratorium claimers) and has come up with a “Resolution Framework for Covid-19 related stress”. Under this relief, existing loans to MSMEs’ classified as “Standard” may be restructured without a downgrade in asset classification subject to the conditions: a) aggregate exposure (both fund plus non fund based) of banks and NBFCs to the borrower does not exceed INR. 2.5 million on March 1, 2020. b) borrower account should be standard as on March 1, 2020. c) the restructuring of the borrower account is implemented by March 31, 2021. d) borrowers assets classified as standard may be retained as such, whereas the accounts which may have slipped into NPA category between March 2, 2020 and date of implementation may be upgraded as ‘standard asset’, as on the date of implementation of the restructuring plan. The asset classification benefit will be available only if the restructuring is done as per provisions of this resolution framework. e) banks shall maintain additional provision of 5% over and above the provision already held by them.

The restructuring facility is also available to personal loans of borrowers, the resolution plans may include rescheduling of payments, conversion of any interest accrued, or to be accrued, into another credit facility, or, granting of moratorium, based on an assessment of income streams of the borrower, subject to a maximum of two years. However, even in case of personal loans, the borrower accounts eligibility for resolution under this framework depends on whether it was “standard”, and not in default for more than 30 days with the lending institution as on March 1, 2020.

However, this decision to permit the resolution for the borrower (MSME/Individual/Corporate) highly depends on the bank board approved policies.

For borrower exposure to single lending institution, a sole lenders’ board can decide whether to allow for resolution. However, if a borrower has multiple lender exposures, the lenders will have to enter into an inter-creditor agreement (ICA) within 30 days of invoking the resolution. For invoking the resolution, majority of the lenders (i.e. 75% of the outstanding loans) have to agree to offer the resolution. If they don’t agree, the borrower will not be allowed the resolution framework.

Given all these relief measures for stressed borrowers, one needs to understand that if a borrower delays payment, the bank business will not generate an income for some time from these stressed assets, the bank capital adequacy will not be affected very adversely as these assets will be treated as “standard” and attract a 5% additional provision, and it will curtail the drastic NPA increase. However, it will also amount to a blockage of funds, without active revenue generation. In this situation, the banks will have to either raise further funds to ensure new revenue generating business or might consider contraction of credit. But the ultimate choice to allow or disallow lies with the “bank board”. Hopefully, this should not lead to a Restructuring asset problem 2.0!