RBI Report Examines Stability of Financial Sector in India

The report highlights that bank credit, which had considerably weakened during the first half of 2019-20, slid down further in the subsequent period with the moderation becoming broad-based across bank groups. The capital to risk-weighted assets ratio of scheduled commercial banks edged down to 14.8% in March 2020, from 15.0% in September 2019, while their gross non-performing asset ratio declined from 9.3% to 8.5% in March 2020. Macro stress tests for credit risk indicate that the gross non-performing asset ratio of all scheduled commercial banks may increase from 8.5% in March 2020 to 12.5% by March 2021 under the baseline scenario; the ratio may escalate to 14.7% under a very severely stressed scenario. Stress test results also indicate that five banks may fail to meet the minimum capital level by March 2021 in a very severe stress scenario.

The report also presents results of the latest systemic risk survey, which reveals that risks for all major risk groups, such as global risks, risk perceptions on macroeconomic conditions, financial market risks, and institutional positions, are perceived to be high. Among the institutional risks, the risks on account of asset quality deterioration and level of credit growth were perceived be high while cyber risk also appeared in the "high risk" category for the first time since the inception of the survey. Participants opined that the effects of COVID-19 pandemic are likely to remain for 3 to 5 years and may impact the quality of credit in the books of banks, the general risk taking ability of entrepreneurs, investments in capital markets and real estate, and the savings pattern of households. All these could have an impact on domestic financial stability. In the financial sector, the existing stock of non-performing assets in the banking system and bankers’ risk aversion remain big worries and impediments to economic growth. Despite measures taken by RBI, transmission of liquidity and rate actions is still slow. Coupled with continued risk aversion, the flow of credit to the productive sectors remains a challenge. Given that financial services are an integral and important constituent of the credit market, many participants opined that support from RBI would be important in the current environment.

About 56% of the respondents to the systemic risk survey opined that the prospects of Indian banking sector are going to deteriorate considerably in the next one year, as earnings of the banking industry may be negatively impacted due to slow recovery post lockdown, lower net interest margins, elevated asset quality concerns, and a possible increase in provisioning requirements. About 36% of the respondents felt that the prospects are going to deteriorate only marginally. Additionally, while the regulatory moratorium may be holding back some stress, the industry-wise composition of good quality loans (that is standard advances which have not yet turned into Special Mention Account, or SMA, and SMA-0 loans) of public and private sector banks reveals that some of the industries with higher share of such loans across bank groups are severely affected by the COVID-19 crisis. This eighteenth systemic risk survey was conducted during April-May 2020 to capture the perceptions of experts, including market participants, on the major risks faced by the financial system.

Keywords: Asia Pacific, India, Banking, COVID-19, Basel, Financial Stability, Systemic Risk, Credit Risk, Stress Testing, Regulatory Capital, RBI