The government’s ordinance on bad loans resolution is credit positive, but does not address the key structural issues plaguing the banking sector, ratings agency Moody’s said today.
Last week, the government through an ordinance provided the Reserve Bank with greater powers to intervene in the resolution of non-performing loans (NPLs). Later, the RBI lowered the threshold for consensus required among lenders in the Joint Lenders’ Forum (JLF) to approve resolution proposals.
“These measures improve the efficacy of NPL resolution mechanisms and are credit positive. However, they do not address the lack of capital at the state-owned banks that has prevented them from writing down NPLs to realistic levels,” the global ratings agency said in a statement.
It expects NPL resolution to be a relatively long drawn out process.
The agency further said the reason for the limited success of the various regulatory measures so far was that they did not address related structural factors.
It said the operating environment in the key stressed sectors remained challenging and the market value of stressed assets was typically much lower than what the banks currently reflect on their balance sheets.
Hence, successful resolution, either through debt relief or asset sale, will require banks to take a big hit when they write-down the value of these assets to market value,” Moody's said.
However, state-owned banks’ weak capital levels mean that they do not have the capacity to take these sort of write-downs.
“Our base case remains that state-owned banks will use most of their operating profits over the next two years to gradually increase loan loss coverage from the current low levels.
“It is only at that stage that they will be in a position to appropriately mark down NPLs and clean up their balance sheets,” it said.
The bad loans of banks is estimated at over Rs 8 lakh crore.