RBI issues warning as Indian banks' bad loans hit 14-year high

[MUMBAI] Bad debts at Indian lenders, especially those in the dominant state-run sector, have climbed to a 14-year high and could swell further, putting a strain on their capital buffers and profitability, a central bank study showed.

The industry's gross bad-loan ratio jumped to 9.1 per cent in September, from 7.8 per cent in March, according to the Reserve Bank of India's Financial Stability Report released Thursday. That's the highest since the year ended March 2002. Stressed assets, including soured debt and restructured loans, rose to 12.3 per cent of outstanding lending from 11.5 per cent, the report showed.

Under a "macro stress test," the gross non-performing loan ratio may rise even further by March 2017, the deadline set by the RBI for banks to clean up soured credit.

"The performance of the Indian banking sector remained subdued during 2015-16 amidst rising proportion of banks' delinquent loans, consequent increase in provisioning and continued slowdown in credit growth," the RBI said in the study, which is released every six months.

Weakness in the Indian banking system would be a blow to Prime Minister Narendra Modi, who is seeking to revive credit growth from near a two-decade low, in order to maintain a robust pace of expansion among the world's major economies. His plans to revitalize the cash-driven economy hit a roadblock after his sudden decision to ban high-denomination notes.

"The withdrawal of specified bank notes will impart far-reaching changes going forward," Governor Urjit Patel wrote in a foreword to the report. He added it will "significantly transform the domestic economy" and boost efficiency and transparency as India moves to a less cash-dependent society.

State-run lenders underperformed their peers in the private sector, according to the report, which measures risks to the banking system by tracking factors such as profitability, asset quality and liquidity. The public-sector banks showed the lowest ratio of capital to risk-weighted assets among bank groups with negative returns on their assets.

Analysts said a slowing economy - economists have cut fourth-quarter growth forecasts in Asia's third largest economy to 6 per cent year-on-year from their previous forecast of 6.5 per cent - is likely to make it harder for banks to recover loans."The asset quality related pressures in the banking system are likely to continue for some time as recovery in the current environment remains challenging," said Karthik Srinivasan, group head, financial sector ratings at ICRA Ltd, the local unit of Moody's Investors Service, adding bad loan ratios are likely to rise further.

"Overall, India's financial system remains stable although banks, particularly the public sector banks, continue to face significant levels of stress," the RBI said, adding that large borrowers were the most to blame for falling behind on their debt repayments.

Earlier this year, the International Monetary Fund said India's banking system was among the most vulnerable to profit declines as loan growth slowed and bad debts rose. According to the IMF, the ability of Indian companies to service debt is the lowest among 19 emerging-market nations it tracked.

BLOOMBERG