The RBI’s decision to recommend the imposition of a one-month moratorium on Lakshmi Vilas Bank (LVB) and almost simultaneously announce a draft scheme of amalgamation that entails the Indian unit of the Singapore government-controlled DBS Bank taking over the capital-starved private lender marks a welcome intervention by the banking regulator. The well-choreographed move will protect the interests of depositors and employees, while shareholders will see the value of their holdings written off once the merger is operationalised. Coming just about eight months after another flailing private lender, Yes Bank, was rescued by an RBI-orchestrated capital infusion , the Karur-based bank’s proposed bailout signals that the regulator is keen to proactively step in to ward off risks to wider financial sector stability. That the LVB had become a candidate for regulatory intervention was evident after its continuous losses, steady erosion of its net worth and inability to raise fresh capital to bolster its balance sheet. Despite being placed under the RBI’s Prompt Corrective Action framework in September 2019, the lender’s finances deteriorated to the point where its gross ratio of non-performing assets to advances shot up to 25.4% in March 2020 and the Tier 1 Capital ratio turned a negative 0.88% at the end of that quarter. The capital ratio subsequently worsened to -4.85% by the end of September, tipping the central bank’s hand.
Overall banking sector health, however, remains a significant concern notwithstanding this latest rescue effort. On Wednesday, Gita Gopinath, the IMF’s chief economist, flagged the wide-ranging damage the COVID-19 pandemic had inflicted on the global economy and warned of deeper legacy scars — more stress on corporate balance sheets and governments burdened with large debt. For all its liquidity bolstering measures since March, the RBI now faces the prospect of having to maintain a heightened vigil over scheduled commercial banks, as well as non-banking financial companies and mortgage lenders, given the threat of contagion from a failure here. The RBI had in its Financial Stability Report in July pointed out that its stress tests indicated that the gross NPA ratio of commercial banks could worsen to 14.7% by March 2021, from 8.5% a year earlier, if the pandemic’s adverse economic impact caused the GDP to contract by 8.9% in the current fiscal. In October, the bank forecast India’s GDP would shrink by 9.5% and earlier this month cautioned that “lurking around the corner” was the major risk of stress intensifying among households and firms that could spill over into the financial sector. The RBI has its task cut out in ensuring it keeps the crucial engine of credit ticking over as the economy strives to revive.
