Indian banks healthy, but still not cautious – Andy Mukherjee writes

28 April 2023

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New Delhi, April 28: Indian banking sector spent most of the last decade out in the wilderness, as a punishment for the lax underwriting standards on their corporate loans. Now they have regained their health, restored profitability and reestablished investors’ trust. The benchmark Nifty Bank Index is close to an all-time high. With everything going well, the lenders should be turning cautious. But recent full-year results show an opposite trend: Provisions for future loan losses are beginning to decline. This may not be prudent.

Across most of Asia, muted big-ticket consumer expenditure — such as on housing — and restrained capital expenditure by firms have led to only a mild post-pandemic recovery in credit, which makes India’s double-digit loan growth a notable exception, according to economists at Australia & New Zealand Banking Group Ltd. Just last month, New Delhi-based developer DLF Ltd. sold $1 billion worth of million-dollar homes on the outskirts of the national capital in 72 hours.

A one-year, 29% jump in credit-card debt has made even the Reserve Bank of India, the regulator, a little uncomfortable. The central bank has cautioned lenders about the risk of delinquencies on their unsecured loans at meetings over at least the past three months, Reuters reported recently.

Yet, HDFC Bank Ltd. and ICICI Bank Ltd., two of the country’s largest lenders by market value, slashed their loss provisions for the financial year that ended in March by 23%. The money ICICI has set aside cumulatively is now 9 billion rupees ($122 million) less than a year ago. That isn’t a problem yet, because gross nonperforming assets have declined at a faster pace of 27 billion rupees. However, there’s nothing to suggest that they won’t rise again.

With the incremental credit-to-deposit ratio running at 111%, Indian banks will have to pay more to savers — sacrificing some part of their high profitability. Although even this won’t affect all lenders equally. Higher deposit costs “will tip the scale in favor of our rated banks, allowing them larger bargaining power to price the loans and hence to defend their margins,” according to Rebecca Tan, a senior analyst at Moody’s Investors Service. Problems may erupt elsewhere.

“The key risk we are watching really is the quality of these bank loans to small-and-medium-sized enterprises and that’s predominantly because of the current rising rate environment,” she said in a Bloomberg TV interview last month.

Since then, an unexpected pause in monetary tightening by the central bank has provided some reprieve, though the effects of a cumulative 250-basis-point increase in rates will be felt for some more time. High interest rates may be particularly worrisome for the risk-chasing behavior of nonbank financial institutions, or NBFIs, which don’t have access to low-cost deposits. “We believe more NBFIs are pursuing higher-yielding loans to offset greater pressure on funding costs and net interest margins,” Fitch Ratings said Thursday. Aggressive growth could “pressure lenders to take inordinate risks, which could weaken asset quality and credit profiles when the economic cycle turns,” it added.