The business of collecting money in the form of deposits on one hand and lending money on another in the shape of loans and advances will witness a fundamental shift in the post-Covid world.
The banking sector in India attained consolidation in recent times. Hence, garnering deposits will not be a major challenge. However, identifying credible borrowers (individuals and corporates) will be extremely tricky.
Credit underwriting is the science and art of lending in anticipation of timely receipt of interest and principal by identifying the:
- right borrower
- right amount
- right interest rate
- right kind of collateral
If borrowers pay promptly, the need for provisioning requirements will be low resulting in a healthy bottom line. This improves credit rating of banks making it easier to raise funds from multiple sources at competitive rates paving the way to a virtuous cycle.
Slowdown & Lockdown:
But, this time it is different because the Indian economy slowed down in the last quarter of FY19. When the WHO declared COVID-19 as a pandemic on 12th March 2020, the government announced a strict national lockdown at short notice from March 25 which is still continuing till May 31, 2020. As economic activities came to a standstill, corporate sector in general and MSME (Micro, Small, and Medium enterprises) in particular bore the brunt. In response to the coronavirus outbreak, the RBI announced on 27th March a three-month moratorium across all kinds of loan products (including credit cards and working capital) where the payments were falling due during March 1 – May 31, 2020. As the COVID-induced lock-downs got extended, the industry could not restart. The RBI had no other option but to double the moratorium to 6 months.
Borrowers in banking parlance are classified into special mention accounts (SMA-1 & SMA-2) and non-performing assets (NPA).
SMA-1 are loan repayments overdue between 31 and 60 days;
SMA-2 between 61-90 days.
NPA is: if either the interest/principal amount is overdue beyond 90 days.
Debt Moratorium & Asset Quality:
Majority of the MSME were financially stressed and their payments fell behind much before Feb 29, 2020 due to a lull in the economy. Hence, bankers wanted this window to be stretched so that it can capture defaults on or before Feb 29 as against March 1. This is because of the fact that borrowers in the MSME space to the tune of Rs 50,000 Crore moved from SMA-2 to NPA stage by March 1, 2020. Nevertheless, the RBI has not entertained any such requests and payments overdue before Feb 29 will attract the current Income Recognition and Asset Classification (IRAC) guidelines. Thus, a “default” as on 1st March, 2020 continues to be a default, but during the 3-month disrupted period the ageing of the default cannot be increased. It is believed that around 35-45% of the loan-book of the banking system has availed the moratorium facility as credit rating will not be impacted during this dispensation period.
Impact of Toxic Assets:
Looking at the evolving scenario from the banking perspective, the cash flow position weakened further due to successive lockdowns as it exacerbated the repaying ability of all kinds of borrowers.
Indian Banks Association (IBA) wanted to get away with lower provisioning and hence requested the RBI to:
• Consider extension of loans provided,
• Treat overdue accounts as standard loans, or
• Classify overdue accounts as a standard restructured asset
Rating firm CRISIL believes that NPAs of the banking sector would worsen to 11-11.50% (up by 150-200 bps) by March 2021 due to weak collections and resolutions during lock-downs. Going forward, banks will look every request and account through a microscope to avoid stepping into the puddle of bad loans. But, the rebooted economy needs liberal loan facility which means dilution of underwriting standards.
Future-enabled Banking Skills:
In the past two decades, banking sector competed with information technology in creating more than one lakh jobs annually and hiring the best talent. But, the significant progress made on the technology front had vanished mundane jobs of verifying KYC, depositing cash, and updating passbook to name a few. Usage of robotics, chatbots, and virtual assistants in banking transactions had made jobs redundant. Setting up of a credit repository like CIBIL had provided information along with automated credit scoring, reduced the need for credit analysts. To make matters worse, the consolidation of public sector banks in recent times would slowdown hiring across the board. There is light at the end of the tunnel as bankers of the future would be those who will leverage technology in understanding customer needs, nurturing relationships, assessing credit-worthiness (judgmental underwriting), enhancing customer satisfaction, investing wisely, and collecting efficiently. There is no substitute for a good learning attitude, strong work ethics, robust intelligence and judgment, and customer-centricity.
1) What are the repercussions of treating existing loan defaults as standard loans?
2) How do we differentiate between the ‘ability to pay’ and ‘willingness to pay’ during moratorium?
3) What are the key skills that will be in demand in an era of pandemic banking?
4) In technology-driven banking business, how do we create and sustain customer value?
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