Bank of India’s 17th Financial Stability Report.
Government-owned banks are likely to be worst hit in the event of macro instability and extreme credit and liquidity risks as they remain the dominant players in the financial system but with poor profitability due to their bad-loan burden, it said.
“The banking stability indicator showed that deteriorating profitability as well as asset quality pose elevated risks to the banking sector stability,” the report said.
“Contagion analysis of the banking network indicates that if the bank with the maximum capacity to cause contagion losses fails, it will cause a solvency loss of about 9 per cent of the Tier-I capital of the banking system.’’ The banking regulator releases a half-yearly assessment of financial sector risks covering banks, insurance companies, mutual funds, nonbanking finance companies and the cooperative banks. While it doesn’t spell out the position of individual banks, it gives broad indications as most are owned by the state.
State-run banks’ gross bad loans may increase to 17.3 per cent of the total by March 2019 under the severe stress scenario from 15.6 per cent in March 2018, it said. For private banks, it may climb to 5.3 per cent from 4 per cent and for foreign banks to 4.8 per cent from 3.8 per cent.
Under a severe credit risk scenario, nearly 25 per cent of the capital of the entire banking system could be in trouble though the possibility of such an event is highly remote. But the concentration risk with top borrowers could be severe, it said.
“Stress tests on banks’ credit concentration, considering top individual borrowers according to their stressed advances, showed that in the extreme scenario of the top three individual borrowers failing to repay, the impact was significant for eight banks,” the report said. “These banks account for 17.4 per cent of the total assets of SCBs (scheduled commercial banks).”
Banks under RBI’s Prompt Corrective Action (PCA), which face restrictions on their activities due to poor financial health, came in for special mention. Their bad loans, even under the baseline scenario, could rise to 22.3 per cent from 21 per cent now with six of the 11 witnessing a breach in capital norms.
“The PCA framework could help to mitigate financial stability risks by arresting the deterioration in the banking sector, so that further capital erosion is restricted and banks are strengthened to resume their normal operations,” it said.