Context: The Reserve Bank of India announced a set of nine measures to revive the struggling domestic economy.
More about the news:
- This follows the earlier set of measures announced by RBI (March 27,2020).
- The International Monetary Fund(IMF) has christened the ongoing economic crisis due to Covid-19 as “The Great Lockdown”, and called it to be the worst recession the world would have faced since the Great Depression(1929).
- The measures announced by RBI is an attempt to insulate Indian Economy from this wave of recession.
Earlier(on March 27), the RBI had announced a flurry of measures essentially trying to do two things:
- Provide regulatory forbearance: That is greater leniency in recognising non-performing assets.
- It tried to boost the liquidity in the financial system so that businesses do not starve of funds.
- To achieve this, it cut the repo rate (the rate at which RBI lends money to the banking system) and the reverse repo rate (the interest rate RBI pays banks when they park their money with the RBI).
- It also started Targeted Long Term Repo Operations (TLTROs) - to allow banks to borrow money from the RBI at the repo rate, which is far lower than the prevailing interest rate in the market.
- The hope was that banks would use cheaper loans to extend cheaper credit to businesses and that will help businesses survive this tumultuous period.
An overview of the nine announcements:
- Targeted Long-Term Operations (TLTRO) 2.0
- A second set of targeted long-term repo operations (TLTRO 2.0) for an initial aggregate amount of Rs. 50,000 crore will be conducted.
- This is being done to facilitate funds flow to small and mid-sized corporates, including NBFCs and MFIs, who have been more severely impacted by the disruptions due to COVID-19.
- Refinancing Facilities for All India Financial Institutions
- Special refinance facilities for a total amount of Rs. 50,000 crore will be provided to National Bank for Agriculture and Rural Development (NABARD), the Small Industries Development Bank of India (SIDBI) and the National Housing Bank (NHB).
- This will enable them to meet sectoral credit needs.
- Reduction of Reverse Repo Rate under Liquidity Adjustment Facility
- Reverse repo rate has been reduced by 25 basis points from 4.0% to 3.75% with immediate effect.
- This is done to encourage banks to deploy surplus funds in investments and loans in productive sectors of the economy.
- Raising Limit of Ways and Means Advances of states and UTs
- Ways and Means Advances (WMAs) Limit of states and union territories has been increased by 60% over and above the limit as on March 31, 2020.
- This will provide greater comfort to states for undertaking COVID-19 containment and mitigation efforts, and also to help them plan their market borrowing programmes better.
In addition to the measures announced by RBI earlier, the bank announced additional regulatory measures to lessen debtors’ burden in wake of the pandemic.
- Asset Classification
- With respect to recognition of Non-Performing Assets (NPAs), the central bank has decided that the payment moratorium period, which lending institutions have been permitted to grant as per RBI’s announcement (on March 27, 2020), will not be considered while classifying assets as NPAs.
- This means that there will be an asset classification standstill for such accounts.
- NBFCs will have the flexibility under the prescribed accounting standards to provide such relief to their borrowers.
- Simultaneously, banks have been asked to maintain higher provision of 10% on all accounts whose classification has been put on a standstill as above, so that banks maintain sufficient buffers.
- Extension of Resolution Timeline
- Recognizing challenges to resolution of stressed assets or accounts which are or are likely to become NPAs, the period for implementation of resolution plan has been extended by 90 days.
- Currently, scheduled commercial banks and other financial institutions are required to hold an additional provision of 20 per cent if a resolution plan has not been implemented within 210 days from the date of such default.
- Distribution of Dividend
- It has been decided that scheduled commercial banks and cooperative banks shall not make any further dividend pay-outs from profits pertaining to FY 2019-20.
- This has been done in order to enable banks to conserve capital so that they can retain their capacity to support the economy and absorb losses in an environment of heightened uncertainty.
- Lowering of Liquidity Coverage Ratio requirement
- To improve the liquidity position for individual institutions, the Liquidity Coverage Ratio requirement for scheduled commercial banks has been brought down from 100% to 80% with immediate effect.
- NBFC Loans to Commercial Real Estate Projects
- The treatment available for loans to commercial real estate projects with respect to the date for commencement for commercial operations (DCCO) has been extended to NBFCs.
- This will provide relief to both NBFCs and the real estate sector.
The liquidity coverage ratio (LCR) refers to the proportion of highly liquid assets held by financial institutions, to ensure their ongoing ability to meet short-term obligations.
The additional measures are aimed to:
- Maintain adequate liquidity in the system and its constituents in the face of COVID-19 related dislocations
- Facilitate and incentivise bank credit flows.
- Ease financial stress, and
- Enable the normal functioning of markets.
Liquidity Adjustment Facility
- A liquidity adjustment facility (LAF) is a tool used in monetary policy, primarily by the Reserve Bank of India (RBI), that allows banks to borrow money through repurchase agreements (repos) or for banks to make loans to the RBI through reverse repo agreements.
- This arrangement manages liquidity pressures and assures basic stability in the financial markets.
- The RBI introduced the LAF as a result of the Narasimham Committee on Banking Sector Reforms (1998).
Ways and Means Advances
- The Reserve Bank of India (RBI) gives temporary loan facilities to the central and state governments. This loan facility is called Ways and Means Advances (WMA).
- The Ways and Means Advances scheme was introduced in 1997.
- Purpose : The Ways and Means Advances scheme was introduced to meet mismatches in the receipts and payments of the government.
- Limit of WMA: The limits for Ways and Means Advances are decided by the government and RBI mutually and revised periodically.
- WMA: The government can avail of immediate cash from the RBI, if required. But it has to return the amount within 90 days. Interest is charged at the existing repo rate.
- If the WMA exceeds 90 days: it would be treated as an overdraft (interest rate on overdrafts is 2 percentage points more than the repo rate).
Types of WMA
There are two types of Ways and Means Advances — normal and special.
- A Special WMA or Special Drawing Facility (SDF) is provided against the collateral of the government securities held by the state.
- Normal WMA: After the state has exhausted the limit of SDF, it gets normal WMA. The interest rate for SDF is one percentage point less than the repo rate.
- The number of loans under normal WMA is based on a three-year average of actual revenue and capital expenditure of the state.
Need of Ways and Means Advances
- The WMA facility enables the government to take a temporary short term loan from the central bank, mainly to address the mismatch between its inflow of revenues and outflow of expenditure.
- Flexibility to raise funds: A higher limit provides the government flexibility to raise funds from RBI without borrowing them from the market.
- More funds can help in welfare of poor and vulnerable sections and for the resurgence of the industry.
Long Term Repo Operation
- The LTRO is a tool under which the RBI provides one-year to three-year loans to banks at the prevailing repo rate.
- To keep short-term interest rates in sync with the policy repo rate.
Difference from LAF and MSF
- The Liquidity adjustment facility (LAF) and marginal standing facility (MSF) offer banks money for their imminent needs ranging from 1-28 days.
- While the LTRO fulfills their liquidity needs for 1- 3 year.
Significance of LTRO
- As banks get long-term funds at lower rates, their cost of funds falls.
- In turn, the interest rates for borrowers are reduced .
- All in all, LTRO facilitates RBI in ensuring that banks reduce their marginal cost of funds-based lending rate, without reducing policy rates.
Targeted long-term repo operations (TLTRO)
The TLTRO was introduced by the RBI.
- Under TLTRO, banks can access three-year funding and use it to invest in investment-grade corporate bonds, commercial paper, and debentures.
- Of this, banks are required to buy up to 50% of their incremental holdings of eligible instruments from primary market issuances and the rest from the secondary market, including from mutual funds and NBFCs.
- LTROs are conducted on e-KUBER platform that is the Core Banking Solution of RBI.
Significance of TLTRO
- It was introduced by the RBI to help companies, including financial institutions, resolve their cash flow problems in the wake of the coronavirus outbreak and imposed lockdown.
It is a broader term and comprises NPAs, restructured loans and written off assets.
- Restructured Loans: Assets/loans which have been restructured by giving a longer duration for repayment, lowering interest or by converting them to equity.
- Written off Assets: Assets/loans which aren’t counted as dues, but recovery efforts are
continued at branch level – done by banks to clean up their balance books.
Non-performing asset (NPA)
- It is a loan or advance for which the principal or interest payment remained overdue for a period of 90 days or more.
- In case of Agriculture/Farm Loans, the NPA varies for short duration crops (interest not paid for 2 crop seasons) and long duration crops (interest not paid for 1 Crop season).
- Banks are required to classify NPAs further into - Substandard, Doubtful & Loss assets.
- Substandard assets: Assets which have remained NPA for a period less than or equal to 12 months.
- Doubtful assets: Assets which have remained in the substandard category for a period of 12 months.
- Loss assets: It is considered uncollectible and of such little value that its continuance as a bankable asset is not warranted, although there may be some salvage or recovery value.
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