An Overview of Overdraft: Urjit Patel’s ‘9R’ Strategy | EXTRACT

In 2015, news of unsustainable bad debts (non-performing assets or NPAs) in the Indian banking sector started to first trickle out, and then became a flood. The banks’ problems landed on the table of Urjit Patel when he became Governor of Reserve Bank of India in September 2016. Based on thirty years of macroeconomic experience, he worked out the ‘9R’ strategy which would save our savings, rescue our banks and protect them from unscrupulous racketeers. Read on to understand his ‘9R’ strategy and its objectives:

From 2014 onwards the regulator, the Reserve Bank of India (RBI), and the government have sought to work towards addressing the scourge of large NPAs – the thrust on transparency meant that the unveiled figure tripled to 10.4 trillion by 2018 – in a consistent manner.

The overall path can be christened, in short, as the ‘9R’ strategy, implemented in distinct steps.

The steps are as given below:

• Recognize the Reality – This step led to a stark increase in non-performing assets (NPAs) as banks recognized the issue. The establishment of the Central Repository of Information on Large Credits (CRILC) by the Reserve Bank in May 2014 filled a critical breach in addressing information asymmetry regarding NPAs at the system level by facilitating collection of data on credit exposures across the banking system. It helped, in a structured manner, focus on multiple information gaps: between banks and the regulator, amongst banks, and concerning the banking regulator and the government courtesy the Financial Stability and Development Council (FSDC), the systemic overseer chaired by the finance minister.

• Record and Report – The Asset Quality Review (AQR) exercise was initiated in the second half of 2015 because banks were hiding problem assets. The clean-up started with a candid assessment of the sloth hiding in the sector’s balance sheet. Not surprisingly, large delinquent accounts at a number of banks had to be revised upwards. There was a threefold increase in disclosed NPAs for government banks from the levels of 2013/14. For the private banks, there was a doubling in reported NPAs.

• Recovery – Since the Insolvency and Bankruptcy Code was then still work in progress, additional tools to assist with the recovery of problem assets were introduced as a stopgap in the absence of a comprehensive mechanism. A regulatory structure was put in place for greater transparency in sale of stressed assets by banks with a view to ensure that the transaction was at market-determined prices. The tools, the so-called ‘alphabet soup’ (listed below), were primarily aimed at structuring of credit facilities, smoothening change of ownership and to aid the restructuring of loans; a couple of these facilitated little more than ‘extend and pretend’, that is, only kicked the can down the road.

• Resolution – In May 2016, the Insolvency and Bankruptcy Code (IBC) was enacted as a watershed towards strengthening India’s financial architecture; it was overdue and, quite correctly, it is universally acknowledged as a landmark reform. [But] The envisaged self-correction did not transpire. The IBC was in place for salvaging value in loan assets that had failed but banks were not forthcoming with the requisite initiative in respect of large stressed accounts.

• Reinforced regulation by the RBI – The government took an unprecedented initiative by modifying a key legislation in 2017. The Banking Regulation (BR) (Amendment) Act, 2017, in Sections 35 AA and 35 AB, empowers the RBI to issue directions to banking companies to initiate an insolvency resolution process in respect of a default, under the provisions of the IBC. It enabled the Reserve Bank to issue directions ‘with respect to stressed assets and specify one or more authorities or committees with such members as the Bank may appoint or approve for appointment to advise banking companies on resolution of stressed assets’.

• Recapitalization – In September 2017, a two-year recapitalization plan for government banks was rolled out; it was a strong policy statement supportive of the continuing NPA clean-up while ensuring financial stability. Except for the last two to three years, much of the recapitalization has been in the form of direct equity infusion from the budget. In 2017/18 and 2018/19, this was supplanted by issuing recap bonds that government banks subscribe to, and the money was used by the government to buy equity in the same banks.

• Reset and Ring-Fence – The regulator’s (the RBI) 12 February 2018 regulations were introduced to prod banks towards timely recognition of problem assets and initiate restructuring, failing which NCLT-based resolution/insolvency had to be used. The IBC/NCLT is, for defaulters, about as welcome as Kryptonite is for the comic-book hero Superman. The objective was to put in place a predictable, time-compliant process. The IBC, and the RBI’s revised framework, helped break the promoter–bank nexus, which has time and again led to crony capitalism and attendant NPA/credit misallocation predicaments.
  The RBI also, over the years, has worked towards a blueprint to alleviate, if not set aside, concerns over sector stability. The Prompt Corrective Action (PCA), under which specific regulatory actions are taken by the RBI if banks underperform on key operational variables, is the most important macro-prudential instrument.

• Reform – Deep reflection and soul searching can help solve fundamental issues, which are the root cause of such frauds and related irregularities in the banking sector and are in fact far too regular. The RBI enjoys a large degree of operational autonomy, but amendments to several legal provisions, and formal grounding of RBI independence in the RBI Act, would provide greater legal certainty. Legal reforms are highly desirable to empower the RBI to fully exercise the same responsibilities for government banks as now apply to private banks, and to ensure a level playing field in supervisory enforcement.

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