The increasing Non-Performing Assets (NPAs) in the Indian banking sector has recently been the subject of much discussion and scrutiny. Yesterday, the Supreme Court struck down a circular dated February 12, 2018 issued by the Reserve Bank of India (RBI). The RBI circular laid down a revised framework for the resolution of stressed assets. In this blog, we examine the extent of NPAs in India, and recent events leading up to the Supreme Court judgement.
What is the extent and effect of the NPA problem in India?
Banks give loans and advances to borrowers. Based on the performance of the loan, it may be categorised as: (i) a standard asset (a loan where the borrower is making regular repayments), or (ii) a non-performing asset. NPAs are loans and advances where the borrower has stopped making interest or principal repayments for over 90 days.
As of 2018, the total NPAs in the economy stand at Rs 9.6 lakh crore. About 88% of these NPAs are from loans and advances of public sector banks. Banks are required to lend a certain percentage of their loans to priority sectors. These sectors are identified by the RBI and include agriculture, housing, education and small scale industries.[1] In 2018, of the total NPAs, 22% were from priority sector loans, and 78% were from non-priority sector loans.
In the last few years, gross NPAs of banks (as a percentage of total loans) have increased from 2.3% of total loans in 2008 to 9.3% in 2017 (see Figure 1). This indicates that an increasing proportion of a bank’s assets have ceased to generate income for the bank, lowering the bank’s profitability and its ability to grant further credit.
|
Figure 1: Gross NPAs (% of total loans)
|
|
Source: Reserve Bank of India; PRS |
What has been done to address the problem of growing NPAs?
The measures taken to resolve and prevent NPAs can broadly be classified into two kinds – first, remedial measures for banks prescribed by the RBI for internal restructuring of stressed assets, and second, legislative means of resolving NPAs under various laws (like the Insolvency and Bankruptcy Code, 2016).
Remedial Measures
Over the years, the RBI has issued various guidelines for banks aimed at the resolution of stressed assets in the economy. These included introduction of certain schemes such as: (i) Strategic Debt Restructuring (which allowed banks to change the management of the defaulting company), and (ii) Joint Lenders’ Forum (where lenders evolved a resolution plan and voted on its implementation). A summary of the various schemes implemented by the RBI is provided in Table 1.
|
Table 1: Non-legislative loan recovery framework
Sources: RBI scheme guidelines; Economic Survey 2016-17; PRS. |
Legislative Measures
In June 2017, an internal advisory committee of RBI identified 500 defaulters with the highest value of NPAs.[8] The committee recommended that 12 largest non-performing accounts, each with outstanding amounts greater than Rs 5,000 crore and totalling 25% of the NPAs of the economy, be referred for resolution under the IBC immediately. Proceedings against the 12 largest defaulters have been initiated under the IBC.
What was the February 12 circular issued by the RBI?
Subsequent to the enactment of the IBC, the RBI put in place a framework for restructuring of stressed assets of over Rs 2,000 crore on or after March 1, 2018. The resolution plan for such restructuring must be unanimously approved by all lenders and implemented within 180 days from the date of the first default. If the plan is not implemented within the stipulated time period, the stressed assets are required to be referred to the NCLT under IBC within 15 days. Further, the framework introduced a provision for early identification and categorisation of stressed assets before they are classified as NPAs.
On what grounds was the RBI circular challenged?
Borrowers whose loans were tagged as NPAs before the release of the circular recently crossed the 180-day deadline for internal resolution by banks. Some of these borrowers, including various power producers and sugar mills, had appealed against the RBI circular in various High Courts. A two-judge bench of the Allahabad High Court ruled in favour of the RBI’s powers to issue these guidelines, and refused to grant interim relief to power producers from being taken to the NCLT for bankruptcy. These batch of petitions against the circular were transferred to the Supreme Court, which issued an order in September 2018 to maintain status quo on the same.
What did the Supreme Court order?
The Court held the circular issued by RBI was outside the scope of the power given to it under Article 35AA of the Banking Regulation (Amendment) Act, 2017. The Court reasoned that Section 35AA was proposed by the 2017 Act to authorise the RBI to issues directions only in relation to specific cases of default by specific debtors. It held that the RBI circular issued directions in relation to debtors in general and this was outside their scope of power. The court also held that consequently all IBC proceedings initiated under the RBI circular are quashed.
During the proceedings, various companies argued that the RBI circular applies to all corporate debtors alike, without looking into each individual’s sectors problems and attempting to solve them. For instance, several power companies provided sector specific reasons for delay in payment of bank dues. The reasons included: (i) cancellation of coal blocks by the SC leading to non-availability of fuel, (ii) lack of enough power purchase agreements by states, (iii) non-payment of dues by DISCOMs, and (iv) delays in project implementation leading to cost overruns. Note that, in its 40th report, the Parliamentary Standing Committee on Energy analysed the impact of the RBI circular on the power sector and noted that the ‘one size fits all’ approach of the RBI is erroneous.
[1] ‘Priority Sector Lending – Targets and Classification’ Reserve Bank of India, July 2012, https://rbi.org.in/scripts/NotificationUser.aspx?Id=7460&Mode=0.
[2] Revised Guidelines on Corporate Debt Restructuring Mechanism, Reserve Bank of India, https://www.rbi.org.in/upload/notification/pdfs/67158.pdf.
[3] ‘Framework for Revitalising Distressed Assets in the Economy – Guidelines on Joint Lenders’ Forum (JLF) and Corrective Action Plan (CAP)’, Reserve Bank of India, February 26, 2016, https://www.rbi.org.in/scripts/NotificationUser.aspx?Id=8754&Mode=0.
[4] Timelines for Stressed Assets, Press Release, Reserve Bank of India, May 5, 2017, https://www.rbi.org.in/Scripts/NotificationUser.aspx?Id=10957&Mode=0.
[5] Flexible Structuring of Long Term Project Loans to Infrastructure and Core Industries, RBI, July 15, 2014, https://www.rbi.org.in/scripts/NotificationUser.aspx?Id=9101&Mode=0.
[6] Chapter 4, The Economic Survey 2016-17, http://unionbudget.nic.in/es2016-17/echap04.pdf.
[7] ‘RBI introduces a ‘Scheme for Sustainable Structuring of Stressed Assets’’ Press Release, Reserve Bank of India, June 13, 2016, https://www.rbi.org.in/Scripts/BS_PressReleaseDisplay.aspx?prid=37210.
[8] RBI identifies Accounts for Reference by Banks under the Insolvency and Bankruptcy Code (IBC), Reserve Bank of India, June 13, 2017, https://www.rbi.org.in/scripts/BS_PressReleaseDisplay.aspx?prid=40743
Early this week, the Comptroller and Auditor General (CAG) of India tabled a report on the finances of Uttar Pradesh for the financial year 2020-21. A few days prior to that, on May 26, the budget for Uttar Pradesh for 2022-23 was presented, along with which the final audited expenditure and receipt figures for the year 2020-21 were released. The year 2020-21 presented a two-fold challenge for states – loss in revenue due to impact of COVID-19 pandemic and lockdown, and the need for increased expenditure to support affected persons and economic recovery. CAG noted that Uttar Pradesh’s GSDP grew by 1.05% in 2020-21 as compared to a growth of 6.5% in 2019-20. The state reported a revenue deficit of Rs 2,367 crore in 2020-21 after reporting revenue surplus for 14 successive years since 2006-07. Revenue deficit is the excess of revenue expenditure over revenue receipts. This blog looks at the key trends in the finances of Uttar Pradesh in 2020-21 and certain observations by CAG on fiscal management by the state.
Spending and Deficits in 2020-21
Underspending: In 2020-21, total spending by the state was 26% less than the budget estimate presented in February 2020. In sectors such as water supply and sanitation, the actual expenditure was 60% less than the amount budgeted, while in agriculture and allied activities only 53% of the budgeted amount was spent. CAG observed that in 251 schemes across 57 departments, the state government did not incur any expenditure in 2020-21. These schemes had a budget provision of at least one crore rupees, and had cumulative allocation of Rs 50,617 crore. These included schemes such as Pipe Drinking Water Scheme in Bundelkhand/Vindhya and apportionment of pension liabilities. Moreover, the overall savings due to non-utilisation of funds in 2020-21 was 27.28% of total budget provisions. CAG observed that the budgetary provisions increased between 2016 and 2021. However, the utilisation of budget provisions reduced between 2018-19 and 2020-21.
Pattern of spending: CAG observed that in case of 12 departments, more than 50% of the expenditure was incurred in March 2021, the last month of the financial year. In the civil aviation department, 89% of the total expenditure was incurred in March while this figure was 62% for the social welfare department (welfare of handicapped and backward classes). CAG noted that maintaining a steady pace of expenditure is a sound practice under public financial management. However, the Uttar Pradesh Budget Manual has no specific instructions for preventing such bunching of expenditure. The CAG recommended that the state government can consider issuing guidelines to control the rush of expenditure towards the closing months of the financial year.
Management of deficit and debt: As a measure to mitigate the impact of COVID-19, an Ordinance was promulgated in June 2020 to raise the fiscal deficit limit from 3% of GSDP to 5% of GSDP for the year 2020-21. Fiscal deficit represents the gap between expenditure and receipts in a year, and this gap is filled with borrowings. The Uttar Pradesh Fiscal Responsibility and Budget Management Act, 2004 (FRBM Act) passed by Uttar Pradesh Assembly specifies the upper limit for debt and deficits. The Ordinance thus permitted the state government to borrow more to sustain its budget expenditure. The fiscal deficit of the state in 2020-21 was 3.20% of GSDP, well below the revised limit. At the same time, the state’s outstanding debt to GSDP in 2020-21 was 32.77% of GSDP, above the target of 32% of GSDP set under the FRBM Act. Outstanding debt represents accumulation of debt over the years.
Table 1: Spending by Uttar Pradesh in 2020-21 as compared to Budget Estimates (in Rs crore)
|
Particular |
2020-21 BE |
2020-21 Actuals |
% change from BE to Actuals |
|
Net Receipts (1+2) |
4,24,767 |
2,97,311 |
-30% |
|
1. Revenue Receipts (a+b+c+d) |
4,22,567 |
2,96,176 |
-30% |
|
a. Own Tax Revenue |
1,58,413 |
1,19,897 |
-24% |
|
b. Own Non-Tax Revenue |
31,179 |
11,846 |
-62% |
|
c. Share in central taxes |
1,52,863 |
1,06,687 |
-30% |
|
d. Grants-in-aid from the Centre |
80,112 |
57,746 |
-28% |
|
Of which GST compensation grants |
7,608 |
9,381 |
23% |
|
2. Non-Debt Capital Receipts |
2,200 |
1,135 |
-48% |
|
3. Borrowings |
75,791 |
86,859 |
15% |
|
Of which GST compensation loan |
- |
6,007 |
- |
|
Net Expenditure (4+5+6) |
4,77,963 |
3,51,933 |
-26% |
|
4. Revenue Expenditure |
3,95,117 |
2,98,543 |
-24% |
|
5. Capital Outlay |
81,209 |
52,237 |
-36% |
|
6. Loans and Advances |
1,637 |
1,153 |
-30% |
|
7. Debt Repayment |
34,897 |
26,777 |
-23% |
|
Revenue Balance |
27,451 |
-2,367 |
-109% |
|
Revenue Balance (as % of GSDP) |
1.53% |
-0.14% |
|
|
Fiscal Deficit |
53,195 |
54,622 |
3% |
|
Fiscal Deficit (as % of GSDP) |
2.97% |
3.20% |
Note: A negative revenue balance indicates a deficit. The actual fiscal deficit reported by Uttar Pradesh for 2020-21 in 2022-23 budget was 2.8% of GSDP. This difference was due to higher GSDP figure reported by the state.
Sources: Uttar Pradesh Budget Documents of various years; CAG; PRS.
Finances of State Public Sector Undertakings
Public sector undertakings (PSUs) are set up by the government to discharge commercial activities in various sectors. As on March 31, 2021, there were 115 PSUs in Uttar Pradesh. CAG analysed the performance of 38 PSUs. Out of these 38 PSUs, 22 companies earned a profit of Rs 700 crore, while 16 companies posted a loss of Rs 7,411 crore in 2020-21. Note that both the number of PSUs incurring losses and the quantum of losses has decreased since 2018-19. In 2018-19, 20 PSUs had reported losses worth Rs 15,219 crore.
Figure 1: Cumulative losses incurred by Uttar Pradesh PSUs (Rs crore)
Sources: CAG; PRS.
Losses of power sector PSUs: Three power sector PSUs—Uttar Pradesh Power Corporation Limited, Purvanchal Vidyut Vitran Nigam Limited, and Paschimanchal Vidyut Vitran Nigam Limited—were the top loss incurring PSUs. These three PSUs accounted for 73% of the total losses of Rs 7,411 crore mentioned above. Note that as of June 2022, for each unit of power supplied, the revenue realised by UP power distribution companies (discoms) is 27 paise less than cost of supply. This is better than the gap of 34 paise per unit at the national level. However, the aggregate technical and commercial losses (AT&C) of the Uttar Pradesh discoms was 27.85%, considerably higher than the national average of 17.19%. AT&C losses refer to the proportion of power supplied by a discom for which it does not receive any payment.
Off-budget borrowings: CAG also observed that the Uttar Pradesh government resorted to off-budget borrowing through state owned PSUs/authorities. Off budget borrowings are not accounted in the debt of the state government and are on books of the respective PSUs/authorities, although, debt is serviced by the state government. As a result, the outstanding debt reported in the budget does not represent the actual debt position of the state. CAG identified off-budget borrowing worth Rs 1,637 crore. The CAG recommended that the state government should avoid extra-budget borrowings. It should also credit all the loans taken by PSUs/authorities on behalf of and serviced by the state government to state government accounts.
Management of Reserve Funds
The Reserve Bank of India manages two reserve funds on the behalf of state governments. These funds are created to meet the liabilities of state governments. These funds are: (i) Consolidated Sinking Fund (CSF), and (ii) Guarantee Redemption Fund (GRF). They are funded by the contributions made by the state governments. CSF is an amortisation fund which is utilised to meet the repayment obligations of the government. Amortisation refers to payment of debt through regular instalments. The interest accumulated in the fund is used for repayment of outstanding liabilities (which is the accumulation of total borrowings at the end of a financial year, including any liabilities on the public account).
In line with the recommendation of the 12th Finance Commission, Uttar Pradesh created its CSF in March 2020. The state government may transfer at least 0.5% of its outstanding liabilities at the end of the previous year to the CSF. CAG observed that in 2020-21, Uttar Pradesh appropriated only Rs 1,000 crore to the CSF against the requirement of Rs 2,454 crore. CAG recommended that the state government should ensure at least 0.5% of the outstanding liabilities are contributed towards the CSF every year.
GRF is constituted by states to meet obligations related to guarantees. The state government may extend guarantee on loans taken by its PSUs. Guarantees are contingent liabilities of the state government, as in case of default by the company, repayment burden will fall on the state government. GRF can be used to settle guarantees extended by the government with respect to borrowings of state PSUs and other bodies. The 12th Finance Commission had recommended that states should constitute GRF. It was to be funded through guarantees fees to meet any sudden discharge of obligated guarantees extended by the states. CAG noted that Uttar Pradesh government has not constituted GRF. Moreover, the state has also not fixed any limits for extending guarantees.
For an analysis of Uttar Pradesh’s 2022-23 budget, please see here.
