Delay in tapering helped to bring about adjustment in CAD

Non-performing assets (NPAs) of the banking sector need to be tackled on a priority basis to ensure that they do not grow to alarming proportions. “The current levels of NPAs do not pose a systemic concern as the CRAR (Capital to Risk Weighted Assets Ratio) of the banking system is above the prescribed levels and many projects are just delayed, not unviable. But we cannot be complacent,” Reserve Bank of India Governor Raghuram Rajan said in the foreword of the Financial Stability Report (FSR) December 2013 released here on Monday.

The risks to the banking sector had further increased since the publication of the previous FSR in June this year. All major risk dimensions captured in the Banking Stability Indicator showed increase in vulnerabilities in the banking sector, the report said.

“Asset quality continues to be a major concern for scheduled commercial banks (SCBs). The gross non-performing assets ratio of SCBs, as well as their restructured standard advances ratio, have increased. Therefore, the total stressed advances ratio rose significantly to 10.2 per cent of total advances as at end September 2013 from 9.2 per cent of March 2013,” it said.

Five sectors

Five sectors, namely, infrastructure, iron and steel, textiles, aviation and mining, together contribute 24 per cent of total advances of SCBs, and account for around 53 per cent of their total stressed advances.

The RBI said India was better prepared to handle the effects of tapering in the U.S. Federal Reserve’s bond purchase programme starting January 2014, but continuing inflationary pressure was limiting what its monetary policy could do. It had also raised concern on the alarming bad assets in the banking sector, the RBI said in the report.

“The commencement of the taper should signal a calibrated return to normal liquidity and credit conditions in the global markets and also better pricing of risk. This will mean a re-pricing of certain assets with consequent volatility,” the report said.

It said the delay in tapering allowed India to bring about adjustment in the current account deficit (CAD) and build buffers by replenishing its foreign exchange reserves. “However, macro-economic adjustment is far from complete, with persistence of high inflation amidst growth slowdown. Fall in domestic savings and high fiscal deficit are other major concerns for India,” it said.

“Efforts during the past few months have been directed to make the Indian economy more resilient to the ultimate withdrawal of liquidity from the system and less reliant on unstable external capital for growth. The Fed’s announcement that it will phase out QE-3 is a welcome signal that conditions have started on the path of normalisation,” Dr. Rajan said.

“The previous FSR was released at a time of volatility unleashed by the Fed’s announcement of tapering. As tapering got postponed, economies like India got time to put their house in order. Macro-prudential policy measures initiated by the Reserve Bank and the Government have brought some stability to the markets and exchange rate volatility has been contained thus far,” he said.

The FSR-December 2013, the eighth in the series, has been released against the backdrop of a mild positive market reaction to the announcement of U.S. Federal Reserve. The FSR is published every six months.

The RBI said current account deficit had narrowed to sustainable levels. Foreign exchange reserves were adequate and fiscal consolidation was in progress. The outlook for the economy had improved, with export growth regaining momentum, but growth was still weak.

“The challenges of containing inflationary pressures limit what monetary policy can do. To maintain the momentum gained by the respite, it is imperative that long-delayed legislative reforms are pushed through, stalled infrastructure project clearances continue and fiscal consolidation remains on track,” Dr. Rajan said in the foreword.

“In India, a potential additional source of uncertainty is the coming general election. A stable new government would be positive for the economy,” he added.

As per the report, corporate performance continues to be weighed down by boom period expansions and excess capacities, amid shifting asset composition towards financial investments.

House prices and outstanding loans for housing by housing finance companies had grown relatively faster during the last few years, it said.

The report said India’s domestic markets for interest rate derivatives had not taken off due to the absence of some of the basic building blocks. Efforts were on to address these issues, it pointed out..

Central repositories

Action to create central repositories for the banking sector, corporate bond market and insurance sector had been initiated. This move was expected to break the information asymmetry in those markets, it added.

The FSR aims to create awareness about the vulnerabilities in the financial system, to inform about the resilience to stress of the financial institutions and to generally serve as a health check on the financial system.

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