Deferment of interest payments, restructuring may hit banks’ health: RBI

Deferment of interest payments and restructuring may have implications for the financial health of banks, unless they are closely monitored and judiciously used, the Reserve Bank of India (RBI) said in its annual report for 2019-20, released on Tuesday. Banks should be able to unwind the forbearances given to them at an appropriate time, instead of relying on these as the “new norm”, the central bank said. Further, it observed that a recapitalisation plan for public and private sector banks is of critical importance at this juncture.

Earlier this month, the central bank had allowed banks to restructure personal and corporate loans impacted by Covid-19, with strict entry barriers. Industry executives and analysts expect anywhere between 4% and 8% of the banking sector’s outstanding loan book to undergo restructuring under the latest recast scheme.

Some have also expressed apprehensions about the degree of success of the scheme, given the historical experience of debt restructuring in India.

“The minimum capital requirements, which are calibrated on the basis of historical loss events, may no longer suffice to absorb post-pandemic losses,” the regulator said, adding that it has already advised banks and non-banking financial companies (NBFCs) to carry out stress tests for Covid and proactively take necessary remedial measures.

The ability to raise capital as well as build resilience to ensure financial stability in anticipation of more frequent, varied and bigger risk events than in the past shall be contingent on the governance standards in banks, particularly on strength of risk governance framework, the RBI said. In this context, it pointed to its discussion paper on “Governance in Commercial Banks in India”. The paper has lately come under criticism for seemingly seeking to enhance the powers of banks’ boards to the extent of reducing their executive chiefs to figureheads.

The RBI also laid out some details of its supervisory approach in tandem with evolving regulations. The approach will have to be two-pronged – first, strengthening the internal defences of regulated entities; and second, greater focus on identifying the early warning signals and initiating corrective action. “Greater emphasis will need to be placed on the assessment of business models, governance and assurance functions (compliance, risk management, internal audit and vigilance functions),” the RBI said. It reiterated that after the containment of Covid-19, a very careful trajectory will have to be followed in orderly unwinding of regulatory measures and the financial sector should return to normal functioning without relying on the regulatory relaxations as the new norm.

The report took note of the need to regulate emerging digital players in the NBFC space. “The goal of the Reserve Bank is to strengthen the sector, maintain stability and reduce the scope for regulatory arbitrage,” the RBI said, adding that an optimal level of regulation and supervision is sought to be achieved so that the NBFC sector is financially resilient and robust, catering to financial needs of a wide variety of customers and niche sectors, and providing complementarity and competition to banks.

Housing finance companies (HFCs) now fall under the regulatory purview of the RBI and the process of harmonising regulations for them with those applicable for NBFCs will assume priority. “A robust liquidity risk management framework is in place for NBFCs and should, in time, apply to HFCs as well, with the objective of ensuring proper governance and risk management structures, including functionally independent chief risk officer (CRO) with clearly specified role and responsibilities,” the RBI said.