The Rs 20 Lakh Crore Bad Loans Problem of Indian Banks Hasn’t Gone Away

On December 29, 2020, the Reserve Bank of India (RBI) released the Report on Trend and Progress of Banking in India.

Like every year, the report is a treasure trove of information, especially for people like me who like to closely track the aggregate banking scene in India.

Sadly, most of this important information barely made it to the mainstream media, this, despite the fact that the health of the country’s banking sector impacts almost all of us. (This is one reason why I need your continued support).

Among other things, the report discusses the issue of the bad loans of banks in great detail. Bad loans are largely loans which haven’t been repaid for a period of 90 days or more. They are also referred to as non-performing assets or NPAs.

Let’s take a look at this issue pointwise.

1) The total bad loans of banks (public sector banks, private banks, foreign banks and small finance banks) as of March 31, 2020 stood at around Rs 8,99,802 crore. This is the lowest since 2017-18. The following chart plots the bad loans of banks over the years.

Source: Reserve Bank of India.

Despite this fall, the Indian banking sector on a whole continues to remain in a mess. We shall look at the reasons in this piece.

2) The total amount of loans written off by banks has steadily been going up over the years. In 2019-20 it peaked at Rs 2,37,876 crore. The following chart lists out the loans written off by banks over the years.

Source: Reserve Bank of India.

Basically, loans which have been bad loans for four years (that is, for one year as a ‘substandard asset’ and for three years as a ‘doubtful asset’) can be dropped from the balance sheet of banks by way of a write-off. In that sense, a write-off is an accounting practise.

Of course, before doing this, a 100 per cent provision needs to be made for a bad loan which is being written-off. This means a bank needs to set aside enough money over four years in order to meet the losses on account of a bad loan.

Also, this does not mean that a bank has to wait for four years before it can write-off a loan. If it feels that a particular loan is unrecoverable, it can be written off before four years.

So, does that mean that once a loan is written off it’s gone forever and is no longer recoverable? In India things work a little differently. In fact, almost all the bad loans written off are technical write-offs.

The RBI defines technical write-offs as bad loans which have been written off at the head office level of the bank, but remain as bad loans on the books of branches and, hence, recovery efforts continue at the branch level. If a bad loan which was technically written off is partly or fully recovered, the amount is declared as the other income of the bank. Having said that, the rate of recovery of loans written-off over the years, has been abysmal at best.

Now getting back to the issue at hand. The bad loans of banks as of March 31, 2020, have come down to some extent due to write-offs. As the Report on Trend and Progress of Banking in India points out: “The reduction in NPAs during the year was largely driven by write-offs.” Interestingly, the RBI offers the same reason for bad loans coming down in the years before 2019-20 as well.

Let’s try examining the above logic in a little more detail. The bad loans or NPAs of banks as of April 1, 2019, stood at Rs 9,15,355 crore. During the course of 2019-20, banks wrote off loans worth Rs 2,37,876 crore. Nevertheless, as of March 31, 2020, the bad loans of banks had come down to Rs 8,99,803 crore.

If we subtract the loans written off during 2019-20 from the overall bad loans of banks as of April 1, 2019, the bad loans as of March 31, 2020, should have stood at Rs 6,77,479 crore (Rs 9,15,355 crore minus Rs 2,37,876 crore). But as we see they are actually at Rs 8,99,802 crore.

What has happened here? What accounts for the significant difference? Banks have accumulated fresh bad loans during the course of the year. The net fresh bad loans (fresh bad loans accumulated during the year minus reduction in bad loans) during 2019-20 stood at Rs 2,22,323 crore. Once this added to Rs 6,77,479 crore, we get Rs 8,99,802 crore, or the bad loans as of March 31, 2020.

The point to be noted here is that banks on the whole have accumulated fresh bad loans of more than Rs 2 lakh crore during 2019-20. This is a reason to worry. It tells us that the bad loans problem of Indian banks hasn’t really gone anywhere. It is alive and kicking, unlike what many bankers, economists, India equity strategists and journalists, have been trying to tell us. Many borrowers continue to default on their loans.

The net fresh bad loans accumulated in 2018-19 had stood at Rs 1,34,738 crore. This tells us that there was a huge jump in the accumulation of fresh bad loans in 2019-20. The current financial year will see a further accumulation of bad loans due to the covid-pandemic.

3) In a February 2017 interview to Dinesh Unnikrishnan of Firstpost, Dr KC Chakrabarty, a former deputy governor of the RBI and a veteran public sector banker, had put the bad loans number of Indian banks at Rs 20 lakh crore.

As he had said:

“I’ll put the figure around Rs 20 lakh crore…One should include all troubled loans including reported bad loans, restructured assets, written off loans and bad loans that are not yet recognised.”

The trouble was not many people took Chakrabarty seriously at that point of time. Nevertheless, the Rs 20 lakh crore number doesn’t seem far-fetched at all. As mentioned earlier, the bad loans number as of March 31, 2020, stood at Rs 8,99,802 crore.

Between 2014-15 and 2019-20, the total bad loans written off by banks was Rs 8,77,856 crore. We are taking this particular time period simply because in mid 2015 the RBI launched an asset quality review and forced banks to recognise bad loans as bad loans. Up until then the banks had been using various tricks to kick the bad loans can down the road.

If we add, the bad loans as of March 2020 to bad loans written off between 2014-15 and 2019-20, we get Rs 17,77,658 crore. What does this number represent? It represents the total bad loans, the Indian banks have managed to accumulate between 2014-15 and 2019-20. And it is very close to the Rs 20 lakh crore number suggested by Chakrabarty.

Of course, this calculation does not take into account the loans which are bad loans but have not yet been recognised as bad loans. Former RBI Governor Urjit Patel in his book Overdraft—Saving the Indian Saver writes:

“In February 2020, ‘living dead’ borrowers in the commercial real-estate sector – under a familiar guise (‘a ghost from the past’, if you will) viz., ad hoc ‘restructuring’ – have been given a lifeline. It is estimated that over one-third of loans to builders are under moratorium.”

Professor Ananth Narayan of the S. P. Jain Institute of Management and Research, writing in the Mint in June 2020, said: “Banking NPA recognition remains incomplete… For a while now, RBI has allowed banks to postpone NPA recognition for some of the over Rs 8 lakh crore of MSME, MUDRA and commercial real estate loans.” The situation could only have worsened post the spread of the covid-pandemic.

If we take this into account, the bad loans of Indian banks over the last five years have amounted to much more than Rs 20 lakh crore. In that sense, Dr Chakrabarty has had the last laugh. As Chakrabarty had said in the Firstpost interview: “Unless this portion is recognised first, there will be no solution to the bad loan problem.”

Or to put it simply, how do you solve a problem without recognising that it exists.

Are banks finally pulling the plug on real estate?

The Reserve Bank of India (RBI) puts out the sectoral deployment of credit data every month.  These numbers tell us how much banks have lent to different sectors.

The latest set of numbers released by the RBI point out that lending to commercial real estate grew by just Rs 7,153 crore or 4.5% between August 22, 2014 and August 21, 2015. Commercial real estate includes loans to builders.

This, when the overall lending by banks grew by Rs 4,67,509 crore or 8.2%. Hence, the lending to real estate by banks grew at a much slower rate than the overall lending carried out by banks, over the last one year.

How did things stand in August 2014? Between August 23, 2013 and August 22, 2014, the overall lending of banks had grown by Rs 5,28,173 crore or 10.2%. In comparison the lending to commercial real estate by banks had grown by 17.3% or Rs 23,318 crore during the period. Hence, the lending to real estate banks between August 2013 and August 2014 had grown at a much faster rate than the overall lending by banks. That is clearly not the case now.

In fact, between August 2013 and August 2014, banks lent Rs 23,318 crore or nearly 3.3 times the Rs 7,153 crore that they have lent between August 2014 and August 2015. Hence, new lending to commercial real estate by banks has slowed down considerably.

What is interesting is that during the course of this financial year the overall lending to commercial real estate by banks has actually gone down. Between March 20, 2015 and August 21, 2015, the lending to commercial real estate has fallen by Rs 975 crore or 0.6%.

This should put further pressure on builders as far as their finances are concerned and push them more towards lowering prices of unsold homes.

In the recent past a spate of private equity/venture capital funds have invested in real estate companies as well as projects. This is now being offered as one of the reasons as to why the real estate prices won’t fall in the time to come. It is being said that money from private equity/venture capital funds will keep real estate companies going for a while.

There are multiple questions that needs to be answered here. The first question is, why are these funds investing in Indian real estate? John Kay explains this in his book Other People’s Money—Masters of the Universe or Servants of the People?

In the aftermath of the financial crisis, the central banks of the Western world have printed a huge amount of money. Some of this money has been diverted into asset markets and financial markets all around the world, driving up their values. At the same time, the markets have been going up and down in the same direction at the same time. They have become highly correlated in comparison to the past.

As Kay writes: “The resulting common volatility of security prices has provoked a search for ‘alternative assets’ which would not be correlated with existing portfolios. Traditionally ‘alternatives’ were investments such as gold, art, vintage cars and fine wines: but these exist only in limited quantities. And as investor interest in them grew, their prices became increasingly correlated with those of mainstream assets.”

This, perhaps explains why private equity and venture capital funds are interested in investing in Indian real estate. They believe that returns are not highly correlated to other asset classes.

The next question is how many real estate companies have got money from these funds? The answer is not many. It is worth remembering here that thousands of companies operate in the Indian real estate space all over the country. And once this is taken into account, the number of companies getting venture capital/private equity funding is essentially insignificant.

Further, at what prices are these funds buying into real estate companies or real estate projects. There is not much clarity on this front. It is safe saying here that the prices at which they are buying projects must be at a significant discount to the so called “market price” of real estate. So, in that sense there has been a price correction. The question is at what price will these companies sell these homes?

Meanwhile, the simplistic belief that a cut in home loan interest rates will revive the sector continues. As Sumeet Abrol of Grant Thorton India told The New Indian Express: “High interest rates and inflated prices were the major problems. Now one is resolved.” Really? The RBI cut the repo rate or the rate at which it lends to banks by 50 basis points (one basis point is one hundredth of a percentage) to 6.75%. In response the country’s largest bank, the State Bank of India, cut its base rate or the minimum interest rate a bank charges its customers, by 40 basis points to 9.3%.

This meant that the interest rate on home loans should have fallen by 40 basis points as well. Nevertheless, the interest rate on an SBI home loan will fall by only 20 basis points. Why is that? Earlier, the bank gave out home loans to men at five basis points above its base rate. To women, it gave out home loans at the base rate. Now it has decided to give out home loans to men at 25 basis points above the base rate. In case of women it is 20 basis points.

Hence, interest rate on a man taking an SBI home loan will be now be 9.55% (9.3% base rate plus 25 basis points). Earlier, the interest rate was 9.75%. This means a fall in interest rate of 20 basis points.

This means a fall in EMI of a little over Rs 13 per lakh of a home loan. Data from the National Housing Bank shows that in 2013-14, the average home loan size in India was Rs 18-19 lakh. I couldn’t find more recent data. Hence, we can assume that the average home loan size for banks would be around Rs 20 lakh now.

The housing finance company, HDFC, gives out average home loan size data every three months, along with its quarterly results. As on June 30, 2015, the average home loan size of HDFC stood at Rs 23.4 lakh.

Given this, an average home loan of Rs 20 lakh for the Indian banking system is a good number to work with. This means that the EMI on an average Indian home loan would fall by Rs 260 (Rs 13 multiplied by 20). So, will that lead to more people buying homes? Or was that stopping people from buying homes in the first place? I don’t think I need to answer that.

As Abrol of Grant Thorton India put it: “Real growth will be triggered only when builders are ready to cut property prices. If a revival is to happen in the sector, prices which were artificially moved up in the recent past in some areas, should come down to realistic levels.”


(The column originally appeared on The Daily Reckoning on October 6, 2015)

Banks have lent no new money to real estate this financial year

It is very difficult to get hold of numbers when it concerns the real estate sector in India. The numbers usually put out are by organisations and institutions close to the real estate companies. The one genuine set of numbers that are put out every month is related to the total amount of lending carried out by scheduled commercial banks to the real estate sector in India. These numbers are put out by the Reserve Bank of India (RBI) as a part of the sectoral deployment of credit data, which is released once every month.

The latest set of numbers were released by the RBI on July 31, 2015, and make for a very interesting reading, especially if you have had a long(and perhaps lost) dream of buying a home to live in. Why do I say that? Allow me to explain.

As on June 26, 2015, the total amount of lending carried out by banks to the commercial real estate sector stood at Rs 1,66,900 crore. As on March 20, 2015, three months earlier, the number had stood at Rs 1,68,000 crore. Hence, the total amount of lending by banks to real estate companies has actually come down by around 0.7%. What can safely be said is that in the current financial year (which started on April 1, 2015) on an aggregate basis, the banks haven’t lent a single rupee to real estate companies.

How did the scene look like last year? As on March 21, 2014, the total amount of lending by banks to real estate companies had stood at Rs 1,54,400 crore. By June 27, 2014, the total lending had gone up by 1.7% to Rs 1,57,000 crore. This year the total lending has fallen by 0.7% during a similar period.

How do the numbers look over a longer horizon of one year? The lending to commercial real estate by banks has slowed down considerably. As mentioned earlier, as on June 26, 2015, the total amount of lending to commercial real estate by banks stood at Rs 1,66,900 crore. Over a period of one year, it has grown by just 6.3%. The overall lending by banks grew by 7.3% during the same period.

This is the third month in a row when the lending to real estate by banks has grown at a much slower pace than the overall lending. In fact, we need to look at numbers in June 2014 to realise how much the situation has changed over the last one year.

As on June 27, 2014, the total lending by banks to real estate companies had stood at Rs 1,57,000 crore. It had grown by 17.2% over a one year period. The overall lending by banks had grown 12.8%. Hence, the lending to real estate companies by banks had grown at a much faster rate than overall lending.
Further, lending to real estate companies by banks had grown by 17.2% last year. This year it has grown by only 6.3%. Also, as mentioned earlier, since the beginning of this financial year, the lending to real estate companies by banks has actually fallen.

And all this should be good news for buyers.  Why? For the simple reason that the funding source of real estate companies is drying out. Real estate companies have to repay the interest on the loans they had taken on previously. They also need to pay interest on it. Over and above this, there are projects that are still being built and need to be delivered by a certain date. Money will be needed for all these things.

All these reasons will ensure that the companies will have to get around to selling the unsold apartments that they have built and have been unable to sell. The number of unsold homes in cities across the country is huge. As per an estimate made by the real estate consultant Knight Frank the number of unsold homes in National Capital Region stands at around 1.89 lakhs. In Mumbai Metropolitan Region it stands at 1.94 lakh. In Ahmedabad the number is at 42,000. In Bangalore the number is at 1.05 lakh. And so the situation is all across the country.

The only way these unsold homes can be sold is by cutting prices. While the real estate companies have resisted this so far, with the funding from banks almost coming to a standstill, they really have no more options left in the days to come.

Finally, acche din should be on their way for those looking to buy homes to live in.

The column originally appeared on Yahoo India on Aug 4, 2015