Q) Though the creation of a Bad Bank has the potential to address the problem of rising NPAs, there are still concerns associated with it. Critically analyse.

The Union Budget 2021-22 has once again raised the possibility of setting up of a Bad Bank. Such an institution would take up the Non Performing Assets and other illiquid holdings from the public sector banks in the country and help to keep their balance sheets clean. It is an institution similar to the asset restructuring companies that would buy the NPAs from the public sector banks at a discounted rate.

Advantages of Bad Bank 

  1. It would ease the provisioning requirements of the banks as higher NPAs increase the provisioning requirements under the Basel norms. 
  2. It would ensure the trust of the people in the public sector banks.
  3. The Global Financial Crisis of 2007-08 led to the creation of bad banks in many countries and they have been successful.
  4. It might save a defaulting form from liquidation and closure.
  5. Various analysts suggest that in a couple of years, the proportion of stressed assets in the banking system could jump to as high as 18 per cent from around 11 per cent at present.
  6. Rising NPAs drain on banks’ profit and due to this profits are eroded. Public Sector Banks (PSBs), where the bulk of the bad loans reside, cannot raise enough capital to fund credit growth. A Bad Bank will solve this problem. 
  7. Large debtors have many creditors. Hence a bad bank could solve the coordination problem as the debts would be centralized in one agency.

However, banking experts have not been very optimistic about the bad bank as it has its own set of challenges.

  1. It is basically an asset restructuring company and they have not been very successful in India till now.
  2. It would not solve the actual problem that is the rising NPAs.
  3. Ownership by the government has its own set of challenges as government does not have the adequate expertise in resolving NPAs
  4. It would encourage banks to continue with their reckless lending practices.

Way Forward 

  1. Promotion of healthy lending practices in the public sector banks.
  2. Utilisation of the existing mechanisms like IBC and ARCs effectively. 
  3. The most efficient approach would be to design solutions tailor-made for different parts of India’s bad loan problem.

Therefore, setting up a Bad Bank is not the ultimate solution and definitely not the best solution to the rising NPAs. Instead, such an institution can be set up for a temporary period and side by side adequate steps should be taken to solve the actual problem that is rising NPAs.