ECONOMIC NOTES

EPW Research Foundation

Non-Performing Assets of Indian Banks

Phases and Dimensions
Shruti J Pandey, Vishakha G Tilak, Bipin Deokar

echnically, non-performing assets (NPAs) mean assets or loan accounts of borrowers, which have been classied by a bank as substandard, doubtful or loss assets, in accordance with the guidelines relating to asset classication issued by the Reserve Bank of India (RBI). The build-up of NPAs is one of the determinants of nancial stability and growth of the banking sector as high NPAs have a deteriorating impact on capital, liquidity and protability. Furthermore, a high level of NPAs puts a strain on the net worth of banks and hampers their ability to recycle funds. In the last three years or so, since the onset of the global nancial turmoil, the rising NPAs of Indian banking system have become a source of concern. This note attempts to bring out the phases and dimensions of this problem and provides a near-term outlook. Evolution in Disclosure Initially, in 1985, an eight-category Health Code System (HCS) for classication of advances was introduced on the recommendations of the A Ghosh Committee on Final Accounts. However, the true health of a bank could not be assessed as the HCS being followed was based mostly on subjective considerations. The Narasimham Committee on the Financial System (Government of India 1991) felt that the classication of assets according to the HCS was not in accordance with international standards and suggested that for the purpose of provisioning, banks should classify their advances into four broad groups, viz, (i) standard assets, (ii) substandard assets, (iii) doubtful assets, and (iv) loss assets. Following this, prudential norms relating to income recognition, asset classication
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and provisioning were introduced in 1992 in a phased manner. In 1998, the Narasimham Committee on Banking Sector Reforms (GOI 1998) recommended a further tightening of prudential standards in order to strengthen the prevailing norms and bring them on par with evolving international best practices. In March 2004 the income recognition norms were tightened further, whereby an asset was classied as NPA if it remained unpaid for a period of 90 days instead of 180 days, as followed earlier. Post Liberalisation Trends in NPAs After the introduction of prudential norms relating to NPAs, the asset quality of Indian banks witnessed a steady improvement. This is evident from the declining level of gross and net NPAs. The gross NPA ratio of scheduled commercial banks (SCBs) placed at 15.7% at end-March 1997 had declined gradually to 2.25% at end-March 2008. The sharp decline was due to an improvement in the credit appraisal process adopted by SCBs, implementation of new legal initiatives coupled with greater provisions and write-offs. Interestingly, during the crisis year of 2008-09 the gross NPA ratio remained unchanged for the SCBs as compared to the previous year. The Indian banking sector was thus initially insulated from the global nancial crisis. In the recent past, however, while the capital adequacy of banks remained robust, the deteriorating asset quality of the banking sector emerged as a major concern to banks, with the gross NPAs of banks registering a sharp increase, especially of public sector banks (PSBs). It was observed that the y-o-y growth of NPAs had been more than the growth in credit. During the period 2003 to 2007 there was a declining trend in gross NPAs

growth that led banks to disburse loans liberally (Chart 1). In absolute gures, NPAs doubled between 2009 and 2012 and assets under reconstruction trebled in the same period. For the rst time in the post-liberalisation period, the banking industry witnessed soaring bad assets as the gross NPAs increased by around 46% to Rs 1,37,096 crore in 2011-12 from Rs 94,117 crore in 2010-11. As per the analysis done by NPAsource.com, a dedicated portal for the
Chart 1: Y-o-Y Growth in Gross Advances and NPAs
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Gross advances

38 28
% growth

18 8 -2 -12 1999 2001 2003 2005 2007 2009 2011

Gross NPA

resolution of NPAs of banks and nancial institutions in India and globally, in 2011-12 more than a dozen banks, a majority of them being PSBs, reported an over 100% increase in their NPAs. During 2009-10, the ratio of gross NPAs to gross advances increased to 2.4%, and further to 2.5% in 2010-11 and subsequently worsened even further to 3.1% in 2011-12. This is mainly attributed to a deterioration in asset quality of PSBs in the form of rising substandard/doubtful assets. The situation was expected to further worsen in the scal year 2012-13, as by end December 2012 this ratio had slipped to as much as 3.7%. A similar rising trend was seen in the net NPA to net advances ratio, which increased to 1.4% in 2011-12 from 1.1% in 2010-11 (Table 1, p 92). Cross Country Comparison The quality of banks assets has, of late, been improving across countries. Chart 2 (p 92) reveals that non-performing loans (NPLs) as a percentage of total loans have been declining for almost all countries over the years. This could be the effect/outcome of the stringent regulations prescribed under the Basel norms (Sen and Ghosh 2005). After the introduction of prudential norms in 2004, the ratio of Indian banks NPLs to total loans improved distinctly to
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Table 1: Gross and Net NPAs
Year Gross NPAs as % of Gross Advances Net NPAs Public Private Foreign Scheduled as % of Sector Sector Banks Commercial Gross Banks Banks Banks Advances

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1996-97 1997-98 1998-99 1999-2000 2000-01 2001-02 2002-03 2003-04 2004-05 2005-06 2006-07 2007-08 2008-09 2009-10 2010-11 2011-12 Dec 2012

17.8 16.0 15.9 14.0 12.4 11.1 9.4 7.8 5.5 3.6 2.7 2.2 2.0 2.3 2.4 3.3 4.2

8.5 8.7 10.8 8.5 8.4 9.6 8.1 5.9 3.8 2.6 2.4 2.8 3.3 3.0 2.5 2.1 2.1

4.3 6.4 7.6 7.0 6.8 5.4 5.2 4.6 2.9 1.9 1.8 1.8 4.3 4.3 2.5 2.6 3.0

15.7 14.4 14.7 12.8 11.4 10.4 8.8 7.2 5.1 3.3 2.5 2.3 2.4 2.5 2.5 3.1 3.7

8.1 7.3 7.6 6.8 6.2 5.5 4.4 2.9 2.0 1.2 1.0 1.0 1.1 1.1 1.1 1.4 -

Source: RBI (2008): The Banking Sector in India: Emerging Issues and Challenges, Report on Currency and Finance 2006-08, Volume 1.

impact on credit quality. In the recent past, there has also been a rapid increase in the retail loans segment, combined with some deterioration in NPAs of retail assets. The asset quality of PSBs aggravated in comparison to private sector banks as big-ticket corporate loans form a larger share of the credit portfolio for PSBs. For instance, the gross NPAs of the above Rs 1 crore loan accounts increased by over 1.5 times and the amount involved doubled in the year ending March 2012. The amount of gross NPAs of PSBs (above Rs 1 crore loan accounts) increased to Rs 68,262 crore at the end of March 2012 as against Rs 34,633 crore in March 2011. Another reason for the sudden rise in gross NPAs of PSBs was reported to be on account of a shift to a system-based recognition of NPAs from a manual one. Prior to this, the computation for most

added pressure on asset quality of banks. Besides, inadequate appraisal and monitoring of credit proposals have also led to higher NPA levels. Sector-wise NPAs The sectoral composition in Chart 3 reveals that among bank groups the NPAs of the priority sector are indeed higher than the NPAs of the non-priority sector in the case of PSBs as compared to private banks. This trend has been continuing over the years. During the period 2009-12 the average share of priority sector NPAs for the PSBs was 54.3% while for the private sector it was 26%. Restructuring In recent years, the restructuring of bad loans has been one of the important means to contain NPAs. The RBI had issued guidelines on restructuring of advances in August 2008 according to which banks were allowed to restructure accounts classied as standard, substandard and doubtful viable entities. As per the January 2009 guidelines of RBI, banks have been permitted to retain their standard asset classication after restructuring, provided certain conditions are fullled. The slowdown in the economy and a steep rise in NPAs in the last few years pressed banks to actively resort to restructuring. As a result, restructured advances as a percentage of gross advances of SCBs were around 1.2% in 2008, which went up to 5.2% in 2012.

Chart 2: Country-wise Banks Non-Performing Loans to Total Loan Ratio (%) 10

8.5 8.1

8
7.1 6.1

7.5

2009 2012 4.2 3.5 3.6 3.3 2.4 3.0 3.3 2.8 2.1 2.2 1.8 2.2 2.4 3.6 3.5

5.3

5.4

2006

3.9 2.7

1.6 0.9 0.8

Brazil

China

India

Indonesia

Malaysia

Mexico

Philippines

Thailand

US

3.3% in 2006 from 8.8% in 2003. In 2006, Indias ratio was at the global levels and was better than several emerging market economies such as Brazil, Indonesia, Malaysia, Philippines and Thailand. A comparison of select countries for 2009 and 2012 however reveals that all nations with the singular exception of India have experienced a reduction in their NPLs as a percentage of total loans ratio. Indias ratio has increased to 3% in 2012 as against 2.4% in 2009. Dimensions of the Problem The rising NPAs in the recent period can be attributed to the effects of the global recession coupled with internal factors like the slowdown in the domestic economy which had adversely affected the performance of corporate as well as small and medium enterprises (SMEs), leading to a negative
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banks was worked out manually at the branch level and was therefore subject to the discretion of managers. The NPAs are pro-cyclical in nature and Recovery and Slippage Ratio a rise in the same is a reection of the The recovery ratio of the PSBs and private overall slowdown in the economy. In sector banks improved in 2011-12 as 2011-12, the companies, particularly the compared to the previous year. But it fell SMEs, were nding it Chart 3: NPAs of the Priority Sector (% Share) 58.1 difcult to service their 60 All SCBs 55.2 Public sector 53.8 loans as their business51.8 50.0 es were affected due to 50 47.7 46.9 45.9 grim economic conditions coupled with high 40 interest rates owing to the tight monetary 27.9 27.6 stance of the RBI. In ad- 30 26.8 Private banks dition, the stressed 21.6 nancial condition of 20 some airline companies and State Electricity 10 2009 2010 2011 2012 Boards (SEBs) further
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ECONOMIC NOTES

in the case of foreign banks (FBs) in the same year, when it stood at 64%. The recovery ratio is dened as NPAs recovered during the year as a percentage of gross NPAs outstanding at the beginning of the year. It is really a positive development that the recovery ratio has improved over the years for the PSBs 57.7% in 2007-08 and 64.1% in 2011-12. The recovery ratio of private sector banks was 62.2% in 2008-09, which remained lower afterwards until 2011-12. FBs have been the most efcient bank group in terms of recovery of NPAs, with the lowest recovery ratio of 64% in 2011-12 (Chart 4). The total amount of NPAs recovered declined to Rs 14,400 crore in 2011-12 from Rs 15,642 crore in 2010-11. The Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act (SARFAESI Act) contributed to about 70% of the total recovered amount

a percentage of stan- Chart 5: Bank Group-wise Slippage Ratio (%) 8 dard assets at the beginning of the year. The 6 slippage ratio of PSBs Public sector banks increased consistently Private sector banks from 1.4% in 2007-08 4 Foreign banks to 2.4% in 2011-12. The ratio of private sector 2 banks was quite high at 2.2% in 2008-09, which 0 2007-08 2008-09 2009-10 2010-11 2011-12 fell consistently to become 1% in 2011-12. Chart 6 : Bank Group-wise Written-off Ratio (%) 60 Public sector banks FBs accumulated the Private sector banks highest NPAs across all 50 Foreign banks the above-mentioned 40 groups in 2008-09 and 2009-10 to push the 30 slippage ratio to as 20 much as 5.2% and 5.7%, respectively, which 10 came down to 1.9% in 0 2007-08 2008-09 2009-10 2010-11 2011-12 2011-12 (Chart 5). observed that banks are shifting their Chart 4: Bank Group-wise Recovery Ratio (%) 105 NPAs Written Off focus towards retail and priority sector 2007-08 2008-09 The written-off ratio is lending which is likely to affect the bor2009-10 85 de ned as NPA s written rowings of the corporate sector. 2010-11 2011-12 The banking sector may face additionoff during the year as a 65 percentage of gross NPAs al stress considering factors like the voloutstanding at the begin- atile forex market, slowdown in invest45 ning of the year. Private ment activities, uncertain global comsector banks have been modities prices, consumption demand 25 consistent in writing off and interest rate movement. Public sector banks Private sector banks Foreign banks In order to contain the mounting level NPAs in the recent past as Table 2: NPAs Recovered through Various Channels (Rs crore) compared to other peer of NPAs, it has been suggested that a sepYear Lok Adalats DRTs SARFAESI Act Total groups. The NPAs written arate audit is required for NPAs and the Amount Amount Amount Amount Amount Amount Amount Amount Involved Recovered Involved Recovered Involved Recovered Involved Recovered off among private sector external auditor should submit a special 2007-08 2,142 176 5,819 3,020 7,263 4,429 15,224 7,625 banks were nil in 2007- report. In addition, the government has (2.3) (39.6) (58.1) advised PSBs to implement a number of 2008-09 4,023 96 4,130 3,348 12,067 3,982 20,220 7,426 08 and 2008-09, sud(1.3) (45.1) (53.6) denly surged to 26% in new initiatives, like putting into opera2009-10 7,235 112 9,797 3,133 14,249 4,269 31,281 7,514 2009-10 but moderated tion an early warning system, appoint(1.5) (41.7) (56.8) thereafter to 10.4% in ment of nodal ofces for recovery and 2010-11 5,254 151 14,092 3,930 30,604 11,561 49,950 15,642 (1.0) (25.1) (73.9) 2011-12. However, despite setting up a board level committee for 2011-12 1,700 200 24,100 4,100 35,300 10,100 61,100 14,400 a fall it remained higher monitoring of recoveries. (1.4) (28.5) (70.1) than the PSB s in the last DRTs: Debt Recovery Tribunals. Figures in brackets are percentages to total. Source: RBI, various issues of Report on Trend and Progress of Banking in India. three years. The FB group The authors are with the EPW Research in 2011-12, followed by debt recovery on the other hand had 8.6% written-off Foundation. tribunals (DRTs). The SARFAESI Act has NPAs in 2007-08, which subsequently References been the most effective way to recover increased to 53% and 45.7% in 2008-09 Government of India (1991): Report of the Committee on the Financial System. NPAs followed by DRTs. Recoveries made and 2009-10, respectively. It recorded a (1998): Report of the Committee on Banking through Lok Adalats in contrast remained steep decline in 2010-11 to 1.1%, while in Sector Reforms. Reserve Bank of India: Report on Trend and dismal thoughout the period under 2011-12 no NPA was written off (Chart 6). Progress of Banking in India, various issues. review (Table 2). : Statistical Tables Relating to Banks in India, various issues. The slippage ratio indicates yearly ad- The Near-term Outlook Of late, given the lower credit offtake and increasing NPA level over the years, especially in the corporate segment, it is
(2013): Annual Monetary Policy 2013-14. Sen, Sunanda and S K Ghosh (2005): Basel Norms, Indian Banking Sector and Impact on Credit to SMEs and the Poor, Economic & Political Weekly, 14(12): 1167-80.

dition in NPAs and in turn shows deteriorating bank asset quality. It is measured as fresh NPA accretion during the year as
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