Idea Of Formation Of Bad Banks

Bad bank is a bank set up to buy the bad loans of a bank with significant nonperforming assets at market price. By transferring the bad assets of an institution to the bad bank, the banks clear their balance sheet of toxic assets but would be forced to take write downs. Shareholders and bondholders stand to lose money from this solution. Banks that become insolvent as a result of the process can be recapitalized, nationalized or liquidated.

The finance ministry is considering setting up of a ‘bad bank’ — one that will absorb non-performing assets (NPAs) of public sector lenders.Once NPAs — loans that do not yield returns — are segregated and transferred into a new “bank”, lenders can resume normal business functioning and start lending again instead of focussing on management of bad assets. Idea of formation of bad banks is under consideration of Ministry of Finance since January 2016.

Mr. Raghuram Rajan ex-Governor of RBI was however not in favour of establishment of bad Bank .In his opinion , the concept of a good bank and bad bank may not be relevant for India since much of the assets backing the banks’ loans are viable or can be made viable. He said that  it would make sense for the banks themselves to recover the dues. Due to strong opposition by Mr. Rajan , the previous Governor of RBI, the idea of formation of Bad bank was kept in abeyance.

However now after the change of guard at RBI, efforts are being made to rekindle the proposition of Bad Bank formation to absorb toxic assets of loss making public sector banks. This step is considered a solution by Finance Minister Mr. Arun Jaitley or by some experts sitting in Ministry of Finance after the realization of bitter fact that all steps taken till now by Finance Minister and RBI to deal with burden of toxic assets has failed to yield desired result.

However in my opinion, idea of formation of Bad Bank to deal with burden of bad debts in bad banks is undoubtedly a bad idea of bad politicians and bad officials who want to conceal their bad works. This will prove to be disastrous in the long run because bad officials of these banks will fill free to shift all bad debts to bad banks and get fresh opportunity to   create new bad debts by sanctioning loan to bad borrowers. In this way though they will be able to present a shining and rosy picture of the bank during their tenure and get elevation in their career. They will in fact be able to  cheat bank depositors, investors and other stakeholders and also get added opportunity to earn illegal money by way of sanction of loans .

In the long run Bad banks will  collapse just as DICGC , Small Loan Guarantee Scheme and SSI (Small Scale Industry) Loan Guarantee Scheme collapsed 17 years ago . The entire public sector banking industry had walked out of Deposit Insurance and Credit Guarantee Corporation's (DICGC) loan guarantee scheme in the year 1999 because DICGC had not been able to settle many claims pending with it. 

Here it is worthwhile to mention that Deposit Insurance and Credit Guarantee Corporation ( DICGC) was a subsidiary of Reserve Bank of India. It was established on 15 July 1978 under Deposit Insurance and Credit Guarantee Corporation Act, 1961 for the purpose of providing insurance of deposits and guaranteeing of credit facilities. 

During 20 years of its establishment , each PSU banks misused the guarantee scheme . Bankers liberally made finance to small and mid segment loan seekers to keep their political masters happy. As a result , volume of bad assets in each bank went on increasing year after year and they made a habit of reckless loaning and then submitting claims to DICGC to reduce their losses. Ultimately DICGC failed to settle every claim lodged with it and banks then decided to discard DICGC.

Government of India discontinued the guarantee scheme of DICGC but very soon came out with a new similar scheme with another name . In the year 2000 , the government launched Credit Guarantee Scheme (CGS) so as to strengthen credit delivery system and facilitate flow of credit to the MSE sector. Again banks got a platform where they could get compensated by loss arising due to their bad lending. Present position is that newly formed CGTMSE is also under burden of claims lodged by lending banks and there is no doubt to me that sooner of the later government will have to shut the doors of CGTMSE too.

Similarly government used others tools like restructure of toxic assets, compromise settlement with bad borrowers,selling of bad assets to Asset Reconstruction Companies (ARC) and schemes like SSS to reduce burden of bad assets. Unfortunately all these steps failed to perform in the way Government desired to perform. Most of these schemes used by corrupt bankers to earn money through illegal ways, first in sanction of loan and then in compromise settlement with bad borrowers or in writing off of loans.

Solution lies in stopping creation of bad loans not in cremation of bad loans or shifting the location of bad loans  from current Bank to Bad bank.

Solution lies in punishment to bad officials and recovery of money from bad borrowers or punishment to bad borrowers which will send a good message in the mind of bad borrowers as well as bad bankers and bad politicians.

Solution lies in creating a good culture of lending and finishing the culture of bribery and flattery in process of lending and in management of Human resources.

Unfortunately ,governments formed by UPA or that by NDA during last three decades in fact could do nothing to create good culture. Politicians exploited banks to serve their self interest, to serve their Kith and kin and to enhance their vote bank. Similarly bankers also exploited this culture for serving their self interest. 

To add fuel to fire, Indian courts failed to recover the money from bad defaulters for decades even when bankers filed cases in court of law. Lacs of cases are pending in various court for decades and banks do not get any remedy even from legal action because of corrupt system.

Bad culture percolating from top to bottom could not be stopped. Bad culture persists not only in politics but also in banks and other administrative offices and judiciary too .Even CVC, CBI and ACB formed to stop corruption failed to provide any relief. Rather officers associated with audit, inspection and vigilance departments too indulged in bribery and helped corrupt lenders in perpetration of their evil works. 

This is why volume of stressed assets has been continuously rising year after year. Some bankers are clever and they conceal stressed assets by applying various illegal and fraudulent methods. Restructure of bad assets and evergreening of bad loans are two very common methods used to conceal bad debts.

Government will have to change the attitude, mentality and work culture from top to bottom which is a Himalayan task keeping in view dirty politics prevalent in the country.

In brief , I can say with full confidence that formation of bad bank will prove fatal and a suicidal step only . Government of India should refrain from such idea and try to strike at the root of formation of bad debts , rather than using old wine in new bottle and  building castles in the air. for reduction in bad debts .

 Mr. Chidambram, Mr. Pranab Mukhejee and all past Finance Ministers and every Governor of RBI failed to contain rise in bad debts. And if Mr. Jaitley also follows the same path , I think results will also be disastrous . It is painful that Mr. Rajan ex-Governor of RBI who tried honestly to get rid of bad debts, to clean PSU banks and to stop culture of window dressing prevalent in public sector banks has been replaced by a new face.

As of now small and mid segments loans are guaranteed by  CGTMSE . Many of bankers do not hesitate in making finance to bad borrowers to earn bribe  because they are sure that if the borrowers do not repay, they will get the amount recovered from CGTMSE by lodgment of  claim and settled by CGTMSE.  It has become a culture in almost all banks to use CGTMSE to make bad lending and then reduce bad debts and make fresh bribe based lending to achieve the target. But how long this vicious circle will continue , only God knows. 

High value loans are similarly either settled with great sacrifice or written off or sold to ARC or  now proposed  to shift to Bad bank. When a high value loan turns bad, top level officers of bank are not questioned , are not punished  and not removed, rather they are promoted. Some accounts turn bad due to legitimate reasons but some loans become bad due to ill-motivated  ,reckless and careless lending decisions taken by corrupt team of officers . 

Obviously transfer of toxic assets to newly proposed Bad bank will simply postpone the loss  to a later date or transfer the malady from current bank to  bad bank. There is no chance and no possibility of any reduction in formation of toxic assets without change of culture of flattery and bribery.