Now, everyone will agree to a realistic valuation: S S Mundra

The RBI Deputy Governor will demit the office on July 31

The Insolvency and Bankruptcy Code (IBC) will ensure banks come to a realistic valuation about their stressed assets and settle the accounts in a time-bound manner, something bankers were reluctant to do earlier, says Reserve Bank of India (RBI) Deputy Governor S S Mundra. Before demitting office on July 31, Mundra tells Anup Roy the RBI’s intention was never to direct any judicial body on anything. The wording was an ‘innocent oversight’, he says. Edited excerpts:

Cyberattacks are frequent and more potent. How prepared are we to face the challenge head-on?

These are worldwide phenomena. India and the RBI have been relatively less affected. But these attacks are only going to increase in intensity. Earlier, cyberattacks used to be individual-centric, now they are institution-centric. Financial institutions are particularly targeted because of less work and the high reward factor. Earlier hackers used to be individual actors. Now there could be state actors involved as well, though there’s no direct evidence supporting this claim. There are only two kinds of organisations in this world: one which has been hacked, and the other which doesn’t know it has been hacked. The derived wisdom globally is that it would be next to impossible to believe all cyberattacks can be completely foiled. But the relevant point is, if something like this happens, how soon you know about it, take necessary preventive action, and how quickly you recover from the damage. We have prepared an elaborate benchmark and asked all banks how far their own standards are from the benchmark. At the country level, Cert-IN is active and it has been decided it will create a special group for the financial sector. The RBI is expected to spearhead the initial work. We have done enough. Now the key lies in execution. Policies are always top class. The fault lies in poor execution. 

Why was there a huge divergence between your assessment of non-performing assets (NPAs) and the banks’ assessment of NPAs for FY16? 

There can be difference in interpretation because we have a rule-based regulation. Moreover, it was the first time that such disclosures were prescribed for banks. 

Why do you think the various resolution schemes of the RBI did not succeed?

Till the Bankruptcy Code came into existence, there was no time-bound structured mechanism. Whatever the RBI did at that point in time was in the absence of such a mechanism. That is where all the schemes - S4A, SDR etc., were introduced. If you look at the IBC structure, first it is admission, then there is resolution. So the first intent is to find a resolution. Liquidation is not the first stage. And when you say resolution, these are in some way or the other variants of earlier schemes. The major difference now is that in all other earlier schemes, there was some vagueness: if none of these succeed, what next. What has changed in the IBC is this ‘what next’ part (liquidation). 

Bankers are also saying that if you are not a wilful defaulter, pushing someone to the IBC may not be the right approach.

The IBC is giving bankers the same opportunity as the earlier schemes did. Now the IBC is saying ‘do everything timely, else there is no point in waiting and just aggravating the problem’. 

But where are the buyers in case there is liquidation?

We are not coming to the stage of liquidation as yet. But there is buying interest and funding capability. What was coming in the way was an agreement around valuation. If someone is placing an argument that I want 80 per cent for an asset, which is fairly valued at 50-60 per cent and then say there are no buyers, then probably that is not a right argument. Buyers are there at a realistic price.

So bankers had unrealistic expectations about valuations? 

The inclination of banks is always to take a lesser haircut. Haircuts have a direct impact on profitability. There was no well-defined time pressure, and banks used to hold on to the assets. Now when that leeway is no longer there, then automatically everyone will come to a realistic valuation. 

How difficult is it for the resolution process to take place after the Gujarat High Court’s criticism of the RBI? 

I don’t think the Gujarat High Court order made any change in the basic IBC process. I would say there was a slight element of miscommunication. My complete belief is that the RBI never had any intention of thinking it could direct any judicial authority. I think it was an innocent oversight. 

You are forcing banks to clean up their books and take a heavy hit on books. The government is stringent on giving capital. Banks don’t have the capital. How will they survive?

Each entity has to explore all avenues of raising capital. Other than the government, you will have to look at the other shareholders as well. If you have surplus assets, do sell them. Non-core investments have to be shed. After doing all these, if you still don’t have a convincing business model, then even after getting the capital, you won’t change your past behaviour. In that case, it is better you remain where you are. You should then downsize the business and conserve the capital by getting rid of riskier assets. I don’t see a situation wherein you are told you are left to your fate… that’s unlikely to happen. 

Banks are not lending due to NPA stress. They say the RBI measures are not letting them have profits, which again is drawing harsher measures from the government and the RBI. 

This is not a fair criticism. They are commercial entities. They are free to have as much profit as they earn. But if the profit is notional because you have underreported your stress, then there is no use of that profit. No good bookkeeper will allow that. I don’t want to sound harsh, but if the expectation is deferring the problem and then there is a divine intervention… these things largely happen in fairy tales. No one can claim banks were not given enough time to prepare. 

When you punish banks, the penalties are such a pittance that they don’t matter. 

How much penalty you can levy is bound by certain legislation. But there is certainly a case and I think those issues are being taken up. But it will entirely change the regulation and the Act itself. But frankly, even after such an amendment is done, I don’t see us reaching anywhere near the penalties that is there in, say, in a US federal system. But in our system, more than the amount, it is the act of giving penalty, which is more effective. The number of banks that raise money from international markets and the international investors are very sensitive about these things. Because, if there is a penalty, there is a failure of governance somewhere.  

Does merging several bad banks not make a mega bad bank?

Merging a few banks as a quick fix to an emerging problem is not a good solution.  Consolidation per se is not a bad idea. But a hasty merger to achieve some short-term goal is not a good idea. Merger should give a better geographical spread to the merged entity, or it should give a better coverage, or it should be complimentary in human acumen. If there’s a number of entities, some of them looking like a poor clone of the other, then keeping so many in existence has no meaning. It’s a waste of resources.

All banks are becoming retail banks now. Nobody wants to do term lending. Isn’t it risky?

Retail credit is not a sin or a crime. And if you look at our ratio of retail credit to GDP, I think it’s not anywhere near the situation where we can say it is overheated. What we are worried about is that you should not do retail without having a strong back office, analytics, proper scoring, follow-up mechanism and collection capabilities. Don’t start doing retail because it is fashionable to do so or in the absence of anything worthwhile.

I think all kinds of banks will find their niche because it is a huge market. Having said that, one segment that offers tremendous growth opportunity but is underserved is the whole universe of micro, small & medium enterprises (MSME). Unlike retail credit, MSME is a productive credit. The right way is to concentrate on MSME, develop the entrepreneurs and then give them retail loans. I am hopeful that small finance banks would emerge stronger in that sector because they have the experience and by framework as well, they are required to work in that direction.

You have been a banker and then a central banker. You have seen both perspectives, and both seem to have some conflicting views.

I think the perspectives are complementary. When you move from being a commercial banker to a central banker, then you get some insights into the thinking here. How the regulations are formed, what are the other requirements, why we need to remain in sync with the global developments. We can’t completely declare that we don’t worry about other global regulations, the other part of G20. If regulations are framed in complete isolation without understanding the ground-level realities or how a regulation is implemented without having proper understanding, then those regulations also can be very unrealistic. So this is bridging the gap.