RBI deputy guv Vishwanathan spurns call for lowering core capital norms

Continuing with the institutional push against government wishes, Reserve Bank deputy governor N.S. Vishwanathan dismissed calls for lowering capital adequacy norms for the lenders and match with global levels.

In what may ruffle the ministry mandarins further, he also described the February 12 circular for NPA recognition as a "landmark reform", just like the passage of the Insolvency and Bankruptcy Code.

Two of the contentious issues behind the ongoing spat between the government and the central bank which of late has reached historic lows, has been North Block's call for addressing the liquidity crunch and one way to address the same that the finance ministry mandarins feel is lowering the capital adequacy norms, which will push more lendable money to the system.

The government has also been pushing for relaxing the new NPA recongnition norms selectively. But the monetary authority has so far been resisting any such push.

Addressing the prestigious B-school XLRI-Jamshedpur on Friday, Vishwanathan explained that the capital requirements are high for domestic lenders because of higher defaults/bad loans and warned that lowering capital merely for aligning with global standards will create "make-believe" strong banks.

"We must guard against any push for dilution of standards in the name of aligning them with international benchmarks because that will be cherry-picking and will result in our banks being strong in a make-believe sense and not in reality," he argued.

He also said any special dispensation for state-run banks towards lower core capital norms cannot be made despite the sovereign support, because any such move will harm their credibility in the international markets on one hand and prove to be anti-competitive on the other.

The deputy governor further said the real strength of banks will come from recognising weaknesses in their balance sheets and making provisions for them rather than "pretending to believe that the balance sheet is strong."

The speech comes exactly a week after his colleague Viral Acharya made a strong pitch for regulatory independence warning of the wrath of markets if it is not provided.

The government is unhappy with the Mint Road for not diluting its February 12 circular on NPA recognition, denying liquidity support to troubled NBFCs and not diluting the prompt corrective action framework under which as many as 11 of the 21 state-run banks are placed now.

The speech also came on the same day when financial services secretary Rajiv Kumar pitched for the need to align banking regulations with the best global practices, terming the domestic regulations as conservative and stringent.

"Nobody can stand on its leg if you ease anythingthus what is being talked about is that our regulations are aligned to the best global practices. Take it from the best, align it to it, and don't keep it higher than that. So, there is no relaxation of any norm," Kumar said when asked if government has sought relaxation on the PCA framework from the RBI.

Such a suggestion of capital requirements being onerous, Vishwanathan said, "is not correct at all" and pointed out that globally, countries having high bank credit- to-GDP ratio also have higher levels of bank capital.

Following a massive spike in their NPAs, as many as 11 of the state-run banks are placed under the PCA framework for more than a year now, which prohibits these banks, which collectively control a quarter of the system-wide liquidity, cannot lend large sums or expand the branches.

The government wants the curbs to be lifted for easing supply of credit to the economy which will aid growth.

In his speech, Vishwanathan used past experiences to warn that high levels of credit growth due to 'supply push' in the past have resulted in high corporate leverage and consequent NPAs.

The deputy governor also countered notions about the higher capital requirements being a drain on the economy, saying costs are offset by the savings made in the form of potential losses avoided in "averted banking crises."

Vishwanathan said capital buffer of a higher than global standard of 9 per cent has been based on our experience with defaults.

The Basel III framework, which was put in place after the 2008 global financial crisis, mandates only 7 percent core capital buffer.

"The cumulative default rates or CDRs and the loss given default observed in the country are much higher than that observed internationally, though there are signs of improvement in these parameters after the enactment of the IBC and RBI's revised NPA framework," he said.

Speaking to the students, the career central banker explained how a bank faces a default situation. He said it first dips into provisions made for future losses based on past behaviour and then into the capital.

Vishwanathan warned the provisioning levels at domestic banks may not be enough to cover the expected losses, and hence adequate buffers have to be built into the capital.

"It is clear that the suggestion by some that our capital requirements are more onerous than global standards is not correct at all. As the need for repeated recapitalisation has proved, our banks need to aspire to have higher capital levels," he said.

In what may ruffle the ministry mandarins further, Vishwanathan described the February 12 circular for NPA recognition as a "landmark reform", just like the passage of the Insolvency and Bankruptcy Code.

The new code demands NPA recognition even on a one-day default. Government has also been seeking relaxation in this to help save some sectors like the power generation industry.

Implementation of the two reforms is having a positive impact and the trends are changing, he acknowledged but was quick to add that we cannot be lenient as yet.

"Frontloading of regulatory relaxations before the structural reforms fully set-in could be detrimental to the interests of the economy," he said.

Corporates lobbying for relaxations were also targeted by Vishwanathan, who asserted that there is nothing like a "genuine" default and pitched for each case to be resolved through the existing processes like IBC.

The February 12 circular has changed the nature of the relationship between banks and their borrowers to make the creditor stronger, he said.

"This changing debtor-creditor equation disturbs the status quo and it is only natural that it is facing resistance," the central banker said.

Without naming any entity, he said defaulting promoters portray bank actions as a cases of 'ruthless big bank' taking over the assets of a 'hapless borrower' and reminded such people about it being public and taxpayers' money which is at stake.

"A correct portrayal of the situation would be: public interest (depositors and taxpayers) vs borrowers' interest," he made it clear.

He also advised banks to be wary of 'zero haircuts' plans presented by borrowers without naming the Anil Ambani group which has claimed that it presented such plans.

"The choice before banks is: 'illusory future payments' vs 'upfront real cash'. Banks need to arrive at the present value of 'illusory future payments' by discounting it for time value of money and more importantly for the uncertainty in receiving the payments taking into account the existing management's past records," he said.