Friday, 27 March 2020

RBI has begun well, but the task is half done

RBI's announcement earlier today is certainly very good for banks. But for RBI's initiatives to actually end up helping the real economy in any significant manner, a lot more needs to be done. 

It is not really a moratorium
Whether or not to extend a moratorium has been left to the banks. What RBI has said is that if a bank reschedules a term loan to a borrower to allow the borrower the flexibility of not paying the next quarterly instalment, the bank need not recognise it as a default. Though if a borrower simply refuses to pay the next instalment, banks get the same benefit of not having to classify it as substandard. 

Similarly, banks have been given the flexibility of  rescheduling the interest dues from borrowers without having to worry about the loan being classified as substandard. The interest is deferred for a quarter but the borrower would probably have to find the resources to pay up thereafter for the bank to escape the requirement of classifying the loan as being in default.

Both of these initiatives help the bank hugely but do little by way of providing succour to the borrower who has to hope that cash flows after a quarter recover enough for things to be back to normal and even better than normal to support the repayment of deferred interest. 

Forbearance must be extended to credit card dues
Forbearance to credit card dues is something RBI may wish to consider. Many MSME promoters use their credit cards to borrow to keep their businesses going. Ironically, while they are able to service the expensive loans that these are, banks find them lacking in credit worthiness to borrow similar amounts of money at lower interest rates! If the forbearance is not extended to credit cards, lakhs of SMEs will be hit very hard. Defaults are inevitable. It is important for RBI to bear in mind that these businesses turned to credit cards because banks turned them away.  

Liquidity is the need of the hour
What is needed is liquidity, what is needed is an infusion of funds as an extra ordinary measure. Until things get back to normal, companies will be incurring much of their regular expenses with no inflows. It is inevitable that this will put many of them in a huge liquidity bind. It is important that these firms, many of whom, are fundamentally sound don't go belly up because of liquidity issues. 

The time is ripe for a new metric: Loan Book Ratio.
Banks have been prescribed several ratios that they need to adhere to and conformity with each of them is non negotiable. SLR or Statutory Liquidity Ratio is about investment by banks in government securities. CRR or Cash Reserve Ratio is about the percentage of balances held in cash by the bank.  Then there is the priority sector metric with sub targets. 

Perhaps, to ensure that RBI gets banks to lend to industry, it is time to impose a Loan Book ratio. The Loan Book Ratio would be the percentage of assets in a bank's book that it has lent to the real economy. 

If the liquidity provided by RBI to banks is used by the latter to buy bonds in the secondary market, it defeats the purpose of increasing liquidity to boost economic activity. It is probably time for banks to report their Loan Book Ratio on a weekly basis so that the transmission takes place. 

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