More transparency needed in NPAs: Economic Times 19th July 2007

Transparency in accounts is pertinent for banks since they deal with public money. The stakeholders involve a large number of individuals starting from the owners and staff to the borrowers and deposit holders. The quickest indicator of the health of a bank is the ratio of non-performing assets to total assets. Assuming that prudential accounting practices are pursued, this number indicates the strength of a bank. If this ratio increases, then one can smell trouble. In the US, where the accounting norms are strict and transparency mandatory, there are some good chapters that should be incorporated in our systems. The first is that these health indicators should be announced more frequently with less scope given for window dressing. The second is that a simple number for the ratio is not really adequate and we must strive to have a drill down of this number. To see how this can be tackled, we can borrow what the Fed does. The first table (Heavy Burden) drills down the delinquent assets of various categories of banks and bank assets. Five major findings emerge from this table. Firstly, delinquency rates are higher for the larger banks compared to the smaller ones; which is the result when larger banks are more aggressive in building their asset portfolio. The second highlight is that consumer loans have higher delinquency rates with credit cards being the most vulnerable section. This is significant given that the focus of banking is on the retail end, where the consumer loan segment is being targeted aggressively by banks. The rates charged here are normally higher than the median rates charged on other loan categories. Thirdly, real estate loans, especially residential, have higher rates than the commercial real estate loans, meaning thereby that individuals tend to be the larger defaulters. This finding gels well with the earlier observation that the consumer loan segment is more vulnerable than other categories of loans. Fourthly, industry in particular is better at servicing their loans; and also agriculture loans have lower rates of default. Lastly, the larger banks are more vulnerable, when it comes to consumer or real estate loans, implying that they would tend to be more aggressive when dealing with individuals where the default rates are higher. For the other banks, the challenge is more at controlling the growth in industrial defaults since there would be a tendency for the lower-rated companies to access them since the larger ones would be more stringent with their lending norms. Now this is important for us since there has been a tendency for consumer loans to increase in our context. The table alongside shows the broad composition of bank loans in the US and India, and some of the categories of loans are equally important in India. The two sets of data may not be strictly comparable as the definition of segments is dissimilar in some places. However, the important point here is that the non-mortgage consumer segment, which is of an equal dimension in the two countries, has the same share in total credit for both sets of banks. Real estate, in our context, is the mortgage portfolio while it also includes commercial real estate in the US. The fact that the real estate (or mortgage in our case) segments are dominant in the US, and are beginning to dominate in our case is indicative of the problems that could beset our system in the years to come. The RBI has taken note of the same, but there is a need for close monitoring of the data and trigger points should be drawn so that prompt corrective action may be taken as these proportions rise. Also, as in the case of the US, this information needs to be revealed on a quarterly basis under standardised definitions so that there is equal access to this information. The absolute numbers of NPAs as well as ratios need to be mentioned to eschew any kind of camouflage which is resorted to by some banks by inflating the loan book when the NPA levels increase. This will strengthen the prudential processes that have been instituted and pursued assiduously by RBI for the last decade and a half.