Recapitalization Amid Recession — Efforts for Economic Recovery

Recapitalization Amid Recession — Efforts for Economic Recovery

The Union Budget 2019 focused majorly on creating a $5 trillion dollar economy by the year 2025. However, the government’s hopes kept sliding down as the Indian economy struggled with declining growth rates. To tackle this, the government recently injected Rs. 70000 crore into Public Sector Banks as budgeted in July 2019. This massive recapitalization move has been aimed at improving the liquidity squeeze in the economy so as to boost lending and thereby improve the consumption demand in the economy. This latest capital infusion by the government through recapitalization bonds is estimated to generate additional liquidity in the financial system to the extent of about Rs. 5 lakh crore. However, as huge as the sum may appear, it is actually lower than the previous two recapitalization figures of Rs. 1.06 lakh crore and Rs. 88000 crore. The government has already infused over Rs. 2.5 lakh crore in PSU Banks since 2015. Unfortunately, though, these capital infusions have done little to boost the financial sector which continues to reel under the pressure of low capital ratios.

It may be worth noting here that the Indian economy has been going through a period of recession, partly due to the credit deficit with regard to MSMEs and consumers. These two major drivers of the consumption demand curve have been finding it difficult to borrow funds from banks and NBFCs alike, which has resulted in the current economic slowdown.

WHY RECAPITALISATION?

As most of us are already aware, the crisis in the financial sector spun off with the simultaneous unearthing of multiple NPAs and bank frauds and the NBFC crisis triggered by IL&FS. Following this, banks started lending more cautiously and NBFCs almost stopped getting loans from these banks. This, in turn, pushed the already high-interest rates of these NBFCs higher up and made it extremely difficult for MSMEs to avail credit. The NPA crisis also forced banks to maintain higher levels of provisions against bad loans. This further caused a decline in lending and pulled down demand. The constantly degrading liquidity squeeze paralyzed industries, especially the automobile sector, which further crippled the GDP growth rates.

The Reserve Bank of India (RBI), in its June 2019 Financial Stability Report, had expressed concern over lenders’ capital adequacy levels, following which it had said that 5 banks may have their CRA Ratio below the minimum regulatory level of 9% by March 2020 if the government failed to come up with a recapitalization policy. The weak balance sheets of the banks made it even more difficult to attract investors and raise funds from the market. The latest move by the government seeks to address these concerns looming over the Indian financial sector.

OTHER MOVES

Along with capital infusion, the banks are also set to pass on the benefits of the RBI rate cut to the borrowers through MCLR reduction. The banks will also launch repo rate and external benchmark-linked loan products which will further benefit the borrowers through a considerable reduction in monthly installments. All these moves seem to come in the backdrop of a global economic slowdown which has compelled some economies to fall back on the Negative Interest Rate Policy (NIRP) as a last-ditch effort to prevent a possible economic depression.

The government’s recapitalization move has been hailed as a positive step by economists and Credit Rating Agencies alike. The stock market also seems to be resonating with the same opinion as is evident from the recent surge witnessed by the PSU Banking stocks. Aimed at alleviating the stress in the financial system, the move will probably kick-start a much-needed recovery process while stirring positivity in the economy.

Credits :

Content: Prachi Prafull

Graphics: Shubham Saurav

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