Bad Bank for Strengthening the banking Sector of India
To address the growing problem of non-performing assets (NPAs) amid contraction in the economy as a result of the Covid-19 epidemic, the Governor of Reserve Bank of India (RBI) has agreed to the proposal to build a bad bank.
Background:
- During the pandemic, NPAs (non-performing assets) were expected to rise. Hence, Indian banks have written-off their balance sheets.
- In an accounting a write-off is action that reduces the value of an asset while simultaneously debiting a liabilities account.
- A non-performing asset is advance or loan for which principal or interest payments remained overdue for a period of 90 days.
- However, a positive trend was found towards the end of the year 2020, and the provision coverage ratio (PCR) improvement was observed.
Bad bank and its functioning:
- A bad bank conveys the concept that it will function as a bank but has bad assets.
- A bad bank is an asset reconstruction company (ARC) or an asset management company, which takes over the bad loans of commercial banks, manages them and, ultimately, recovers money over time.
- They are not in involved in lending and taking deposits, but helps commercial banks to clean their balance sheets and resolve the problem of bad loans.
- American Mellon Bank created the first bad bank in 1988, after which the concept has been implemented in other countries including Sweden, Finland, France and Germany.
Need of Bad Banks for India:
Increasing Non-performing assets: The RBI has mentioned in its recent FSR that the gross NPAs of the banking sector are expected to grow from 7.5% in September 2020 to 13.5% by September 2021.
Recovery in the economy: Due to the pandemic, the RBI has predicted an increase in bad loans.
International Examples/Precedents: Many other countries of the world had established an institutional mechanism to deal with the problem of stressed financial system.
- A bad bank will be created under the structure of an Asset Reconstruction Company (ARC) or Asset Management Company.
- The National Asset Reconstruction Company (NARC) will acquire total stressed assets from lenders. The National Asset Management Company (NAMC) will act as a manager for the assets acquired.
Source – Indian Express
