Interest waiver will impact financial viability of banks: RBI to SC

The Reserve Bank of India, on Wednesday, told the Supreme Court that a waiver of interest on loans will impact the financial viability of the country’s banks and will be harmful for the interests of depositors and the financial sector.

In an affidavit to the apex court, the RBI also said that the moratorium on loans, which was recently extended to August 31, is in the nature of a deferment and cannot be construed to be a waiver. 

Giving an illustrative example RBI also said that banks could forego about Rs 2 trillion in interest income if interests are waived off for the six months duration of the moratorium.

“While the Reserve Bank is taking all possible measures to provide relief to the real sector with regard to debt repayments on account of the fallout of Covid-19, it does not consider it prudent or appropriate to go for a forced waiver of interest, risking the financial viability of the banks it is mandated to regulate, and putting the interests of the depositors in jeopardy,” the central bank said.

The affidavit was in reply to a plea challenging levy of interest on loans during the moratorium period. On May 23, Governor Shaktikanta Das extended the moratorium by another three months from June 1, for all term loans, including agricultural term loans, retail and crop loans. The moratorium was originally announced on March 27 for three months starting April 1.

On May 26, the Supreme court had asked the Centre and the RBI to respond to a plea challenging levy of interest on loans during the moratorium period. The plea, filed by Agra resident Gajendra Sharma, has sought a direction to declare the portion of RBI's March 27 notification as something beyond the RBI’s legal power or authority, to the extent that it charges interest on the loan amount during the moratorium period.

This will create “hardship to the petitioner being borrower and creates hindrance and obstruction in 'right to life' guaranteed by Article 21 of the Constitution of India,” the petitioner had argued. The petition also sought a direction to the government and the RBI to provide relief in re-payment of loan by not charging interest during the moratorium period.

Explaining its stance in the affidavit, the RBI gave an illustrative calculation. “The weighted average lending rate for banks as on December 31, 2019 was 10.40 per cent, and the outstanding of term loans was Rs 59 trillion. Assuming that moratorium is granted to only 65 per cent of the above outstanding, the monthly interest that will be foregone by the banks in case moratorium period has to be declared interest free will be around Rs 33,500 crore,” it said.

“Since the moratorium period has been permitted for six months, the total interest income thus foregone will be about Rs trillion. This amount is close to 1 per cent of the national GDP. And this is only for the banking system, without counting the NBFCs and other financial institutions,” the RBI said, adding that if the banks are required to forego the above amount, there would be huge consequences for the stability of the banking system.

In its affidavit, the RBI said that the mandate of the Reserve Bank as far as regulation of banks is concerned draws upon the considerations of protection of depositors' interest and maintenance of financial stability, which also require that the banks remain financially sound and profitable.

“That it is submitted that the Reserve Bank of India being the regulator of the banking sector, took cognizance of the probable stress caused in the financial situation and conditions of the citizens of this country - the consequent stress upon the economy due to outbreak of Covid-19 pandemic - and issued a Statement on Developmental and Regulatory Policies dated March 27, 2020…,” it said, adding that legislature has empowered it to determine the banking policies for the banking companies.

The RBI said that in order to alleviate the difficulties faced by borrowers in repaying the accumulated interest for the moratorium period, on May 23 it had announced that in respect of working capital facilities, lending institutions may, at their discretion, convert the accumulated interest for the deferment period up to August 31, 2020, into a funded interest term loan (FITL) which shall be repayable not later than March 31, 2021.“Further, in respect of term loans, it has been provided that the repayment schedule for such loans, including interest as well as principal, as also the residual tenor, will be shifted across the board,” it said.

The central bank stated that since the customer profile, organizational structure and spread of each lending institution is widely different from others, each lending institution is best placed to assess the requirements of its customers.

“Therefore, the discretion regarding deciding the eligibility of customers and manner in which the customers are on-boarded for availing this benefit, including the manner of recovery of the interest accrued during the moratorium period, has been left to the lending institutions concerned,” the banking regulator said.

It added that the banks are commercial entities that intermediate between the depositors and the borrowers and are expected to run on viable commercial considerations. 

“Moreover, the banks being custodians of depositors' money, their actions need to be guided primarily by the protection of depositors' interests. Any borrowing arrangement is a commercial contract between the lender and the borrower and the interest rates reflect the same", the RBI said."It is further submitted that the interest on advances forms an important source of income for banks and after meeting the cost of funds, the banks also need to sustain reasonable interest margins for viable operations,” the RBI said.