Rajan says NPAs, not higher rates, behind low credit growth

Taking on critics of his monetary policy, Reserve Bank Governor Raghuram Rajan today blamed the record low credit growth to the stress in public sector banks and not due to high interest rates.
"I will argue that the slowdown in credit growth has been largely because of stress in the public sector banks and not due to high interest rates," Rajan said in a speech on 'Resolving stress in the banking system' organised by the industry lobby Assocham here this evening.
At the same time he underlined the need for bank lending to the industry, saying "we absolutely need to get public sector banks back into lending to the industry and infrastructure, else credit and growth will suffer as the economy picks up.

"It is not the level of interest rates that is the problem, instead, the loans already in public sector banks' balance sheets are stressed, and therefore their unwillingness to lend more to those sectors to which they have high exposure," Rajan emphasised.
Credit growth has hit a near six-decade low in 2015-16 at around 8.6 per cent, while bad loans in the system have crossed 13 per cent at over Rs 8 trillion in last fiscal year.
Last month, BJP parliamentarian Subramanian Swamy had attacked the Governor and called for his dismissal from the post as he was responsible for "unemployment and collapse" of the industrial activity in the country apart from not "being fully Indian mentally".

"In my opinion, the RBI Governor is not appropriate for the country. He has hiked interest rates in the garb of controlling inflation that has damaged the country," Swamy had said. The BJP leader had also shot off many letters to the Prime Minister seeking Rajan's dismissal.

Rajan, who took charge as RBI Governor on September 4, 2013, had gradually raised the short-term lending rate from 7.25 per cent to 8 per cent and had retained the high rates throughout 2014.
The Governor today suggested that if banks' books are
cleaned up, it could create room for lower interest rates.

"As such, what is required is a clean-up of the balance sheets of public sector banks, which is what is underway and needs to be taken to its logical conclusion," Rajan said defending his decision to hold rates high as he took fighting inflation as a mission up on himself, in which he was successful as CPI inflation came down from double digits to low single digit.
Rajan further said bankers sometime turn around and accuse regulators of creating the bad loan problem.
"The truth is bankers, promoters, and circumstances create the bad loan problem," he said.
The regulator cannot substitute for the banker's commercial decisions or micromanage them or even investigate them when they are being made, Rajan said.

The Governor said in most situations the regulator can at best warn about poor lending practices when they are being undertaken, and demand banks hold adequate risk buffers.
"The important duty of the regulator is to force timely recognition of NPAs and their disclosure when they happen," he noted.
He further said the cleaning up of bank balance sheets, and the restoration of credit growth are vital, related elements in the growth agenda.
Rajan said sometimes banks signed up to lend based on
project reports by the promoter's investment bank, without doing their own due diligence.
On reckless lending by banks in those days the governor recalled that "one promoter had told me about how he was pursued then by banks waving checkbooks, asking him to name the amount he wanted. This is the historic phenomenon of irrational exuberance, common across countries at such a phase in the cycle."

Rajan also discounted arguments that the cessation of forbearance and the asset quality review in mid 2015 were responsible for the credit slowdown, saying "instead, high distressed exposures in certain sectors were already occupying PSB management attention and holding them back."
The only way for them to supply the economy's need for credit, which is essential for higher economic growth, was to clean up and recapitalise.
The silver lining message in the slower credit growth is that banks have not been lending indiscriminately in an attempt to reduce the size of stressed assets in an expanded overall balance sheet, and this bodes well for future slippages, Rajan said.

"In sum, to the question of what comes first, clean up or growth, I think the answer is unambiguously 'Clean up!'" Rajan said, adding the lesson from every other country that has faced financial stress is that it is important that the clean-up proceeds to its conclusion, without any resort to regulatory forbearance once again.