PARA

India is facing the problem of "twin balance sheet problem", where both the banking and corporate sectors were under stress. Not just a small amount of stress, but one of the highest degrees of stress in the world. At its current level, India's NPA ratio is higher than any other major emerging market (with the exception of Russia), higher even than the peak levels seen in Korea during the East Asian crisis. Typically, countries with a twin balance sheet (TBS) problem follow a standard path. Their corporations over-expand during a boom, leaving them with obligations that they can't repay. So, they default on their debts, leaving bank balance sheets impaired, as well. This combination then proves devastating for growth, since the hobbled corporations are reluctant to invest, while those that remain sound can't invest much either, since fragile banks are not really in a position to lend to them. This model, however, doesn't seem to fit India's case. True, India had boomed during the mid-2000s along with the global economy. But it sailed through the GFC largely unscathed, with only a brief interruption in growth before it resumed at a rapid rate.

For some years, it seemed possible to regard TBS as a minor problem, which would largely be resolved as economy recovery took hold. But more recently it has become clear that this strategy will not work. Growth will not solve the problems of the stressed firms; to the contrary, the problems of the stressed firms might actually imperil growth.

To avoid this outcome, a formal agency may be needed to resolve the large bad debt cases - the same solution the East Asian countries employed after they were hit by severe TBS problems in the 1990s. In short, the time may have arrived to create a 'Public Sector Asset Rehabilitation Agency'.

It has now been eight years since the twin balance sheet problem first materialised, and still no resolution is in sight. And because the financial position of the stressed debtors is deteriorating, the ultimate cost to the government and society is rising - not just financially, but also in terms of foregone economic growth and the risks to future growth.

The Survey shows that our country has been trying to solve its 'Twin Balance Sheet'(TBS) problem - overleveraged companies and bad-loan-encumbered banks, a legacy of the boom years around the Global Financial Crisis. So far, there has been limited success. The problem has consequently continued to fester: Non-Performing Assets (NPAs) of the banking system (and especially public sector banks) keep increasing, while credit and investment keep falling. Now it is time to consider a different approach - a centralised Public Sector Asset Rehabilitation Agency (PARA) that could take charge of the largest, most difficult cases, and make politically tough decisions to reduce debt.

As per the Survey, gross NPAs has climbed to almost 12 per cent of gross advances for public sector banks at end-September 2016. At this level, India's NPA ratio is higher than any other major emerging market, with the exception of Russia. The consequent squeeze of banks has led them to slow credit growth to crucial sectors-especially to industry and medium and small scale enterprises (MSMEs)-to levels unseen over the past two decades. As this has occurred, growth in private and overall investment has turned negative . A decisive resolution is urgently needed before the TBS problem becomes a serious drag on growth.

The Survey reaches to the conclusion that a PARA may be necessary because

• Public discussion of the bad loan problem has focused on bank capital. But far more problematic is finding a way to resolve the bad debts in the first place.
• Some debt repayment problems have been caused by diversion of funds. But the vast majority has been caused by unexpected changes in the economic environment after the Global Financial Crisis, which caused timetables, exchange rates, and growth rate assumptions to go seriously wrong.
• This concentration creates a challenge since large cases are difficult to resolve, but also an opportunity since TBS could be overcome by solving a relatively small number of cases.
• Restoring them to financial health will require large write-downs.
• Among other issues, they face severe coordination problems, since large debtors have many creditors, with different interests. And they find it hard -financially and politically-to grant them sizeable debt reductions, or to take them over and sell them.
• It increases the costs to the government since bad debts of the state banks keep rising, and increases the costs to the economy, by hindering credit, investment, and therefore growth.
• Since, private run Asset Reconstruction Companies (ARCs) have not been successful either in resolving bad debts, though international experience (especially that of East Asian economies) shows that a professionally run central agency with the government backing could overcome the coordination and political issues that have impeded progress over the past eight years.

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