In Search Of a Solution

The bad loan problem for Indian banks has defied solutions despite multiple efforts by the government and the Reserve Bank of India (RBI) over the years. Way back in 2002, the Securities and Reconstruction of Financial Assets and Enforcement of Securities Interest Act (Sarfaesi Act) was passed in the hope that it would lead to an orderly solution. Unfortunately, when banks and asset reconstruction companies tried to use it, defaulters went to court. Pretty soon the Act became non-functional in practice.

Even while the government was enacting the Sarfaesi Act, RBI had issued guidelines (in 2001) for the Corporate Debt Restructuring (CDR) scheme. The scheme was to allow restructuring of debt to firms, on a case-by-case basis, to allow them to turn around companies. However, the overwhelming majority of firms, which had been allowed to go for corporate debt restructuring, failed and only a few successfully exited it.

Later, the RBI tried other refinements - it unveiled schemes such as the Strategic Debt Restructuring (SDR), which allowed banks to take majority stake by converting debt into equity of the company, S4A (which was again a variation where banks converted unsustainable debt to equity/quasi equity instruments) and the 5:25 scheme where the debt was structured in a manner to allow a longer period for the defaulter to pay, while protecting the net present value of the loan for the bank.

Meanwhile, the government was also working on the Insolvency and Bankruptcy Code (IBC). The non-performing assets (NPAs) of banks, especially public sector banks, had reached alarming proportions after the RBI enforced asset quality review in 2015, which forced banks to come clean on the bad loans that were hidden in their books through the process of "evergreening".

IBC was a well thought out law, and it provided a time-bound manner for corporate assets to be put up for sale. The RBI took the lead by forcing banks to put 12 biggest defaulters to the National Corporate Law Tribunal (NCLT) under IBC. A few hundred smaller defaulters also landed up in NCLT under IBC. The RBI also withdrew CDR, SDR and all other debt-restructuring schemes.

Unfortunately, IBC is still settling down, and while initial cases are being decided, it is probably taking more time than the government had hoped for. More importantly, there is a clamour from small businessmen that IBC is going to be a lose-lose for them and the banks - with the firms going under insolvency and banks having to write off most of the loans. The government is now proposing Project Shashakt, which is well intentioned but in my opinion just delays the efforts instead of letting the IBC settle down. It is apparent that the government no longer thinks IBC is the best solution for cleaning up bad loans, and that is a pity.