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The recent announcement of a plan for infusion of money to the Public Sector Banks (PSBs) is certainly hopeful. This is done in order to strengthen the balance sheets of the PSBs as there are very few ways to resolve the matter.  A few days ago, Pawan Bajaj, Managing Director and CEO, United Bank of India, told BE that PSBs are able to maintain positive operating profits. The main issue is that a considerable portion of our fund has become nonperforming assets (NPA) and is not coming to our assets. Besides, there are problems of stressed assets. In this situation the entire health of PSBs depends on how much NPA is recovered in future.

Recapitalisation

The announcement of the infusion package of ` 2.11 lakh crore consists of three sources. One, ` 18,000 crore will be from budget provision. Second, the banks will raise ` 58,000 crore over the next two years by selling their shares. Third, government on its own would issue ` 1.35 lakh crore by issuing “recapitalisation bonds” over the current and next financial years. But out of these three parts, the first two are not new as these are already in the so called Indradhanus package which was declared earlier. The third one is new in the announcement.

But there are several ifs and buts in raising funds. This is a vicious cycle. The success of raising funds depends on the strength of the banks’ balance sheets. Again, the balance
sheets cannot be strengthened without adequate capitalisation. That is why there is a doubt about the success of raising
money by the banks through selling shares. Presently, the credit raters’ assessment has the most important role in such cases. It is not clear how far this will be favourable for the PSBs to raise money. The same is true for the “recapitalisation bond” funds.

Cost of recapitalisation

It is reported that the biggest fund would come from “recapitalisation bond”. So the fiscal cost of issuing `1.35 lakh crore in this scheme would be the interest cost of it. This is has been estimated as about `8,000 to `9,000 crore. The government thinks that this will not be a burden. This is because there will be a better investment atmosphere where demand for loan will increase. The banks can take the opportunity by extending loan to investors. In that case growth rate of GDP will be higher.

The infrastructure sector is very optimistic about the decision. The rating agency, CRISIL, estimates that PSBs need to have `1.3 to `1.4 billion additional capital to maintain Basel 3 norms by 2019 can be expected to be met by the decision of the government.

Critique

There are fears of ‘moral hazard’ here. In economics, moral hazard occurs when someone increases their exposure to risk is insured. Think for a situation, when a person takes more risks because someone else takes responsibility of the cost of those risks. It may happen where the actions of one party may change to the detriment of another after a financial transaction has taken place. Therefore in this case, the lenders, as is thought by some observers, may not again be as cautious as it is needed to be. This is because the government may again come to the rescue in case of any future crisis. But it is true that moral hazard must be there in case of public sector units. But before that, banking reform is also needed.

By reform it is meant the eradication of different operational hazards in banking. It is not privatisation or full-fledged merger of small banks. The banking system often comes across several obstructions from political interventions, unnecessary pressures from different administrative offices. It is also said that the RBI’s treatment towards PSBs are sometimes step motherly. The private sector banks at times sideline many banking regulations and government orders to an extent for financial gains. The present crisis of PSBs is not due to its management crisis. Managerial weakness was always there. But Indian banking has had a glorious period too. It is also known that many of the biggest private sector banks of the world faced severe crisis in the past. Many of them had to close down and many of them demanded government help. But as the banking industry is India’s financial backbone, the government should take a judicious decision to have a vibrant banking industry in the country.