India’s central bank has decided enough is enough. The Reserve Bank of India will order lenders to tip 12 companies into bankruptcy proceedings. These unnamed dirty dozen, most likely in the steel and power sector, represent a quarter of the country’s estimated $120 billion bad loan problem. That will test a barely one-year-old insolvency regime .
The Narendra Modi government in May 2017passed rules that empowered the regulator to make commercial decisions. That put responsibility for resolving the bad-loan mess squarely with the RBI. It is not clear that the RBI wanted these powers, but now it has them it is moving fast. That suggests a determination to clean up the system and defend the institution’s credibility.
The lowdown on the directive to RBI on bad loans
To avoid any accusation of bias, the RBI has simply picked accounts with liabilities of more than roughly $780 million, and where 60 % or more of the borrowings were non-performing as of March 2016. For all the other big, deadbeat borrowers who did not meet this original threshold, the RBI is threatening the same fate unless banks agree a resolution plan within six months.
By moving so quickly, the RBI can avoid criticism that it was not doing enough to fix the financial system. The focus will immediately switch to the other arms of the state that are charged with implementing the new bankruptcy code, and whether they are fit for purpose.
The landmark reform envisions wrapping up an insolvency process within 180 days, with the option of a 90-day extension. But to date, no companies have completed the process, issues of legal interpretation have come up, and the National Company Law Tribunal is still hiring to fill vacancies.
If the process works, haircuts may exceed lenders existing provisions. Across the banking system these amount to 44% of non-performing loans, according to Credit Suisse analysts. They reckon some companies need at least an 80% reduction in their interest burden to cover payments at current levels of profitability.
In any case, India will move closer to establishing out how much capital must be pumped into public sector banks. Estimates vary wildly, from $20 billion upwards. The RBI has played its role now the ball is back in New Delhi’s court.
