Dharmalingam Venugopal

"A DEBT not asked is lost," is a universal saying. Banks ought to know it better than the others. But that was not the case with Indian public sector banks (PSBs) in the first two decades of nationalisation.

Debt collection was hardly one of their virtues and the laxity in the prevalent accounting practices only added to the indifference. Banks could account for their dues whether actually paid or not. With the result, dud loans or bad debts kept piling up year after year till they became a the mountain they are today. An estimated one lakh crore of rupees are locked up as bad debts in the banking system.

Reforms

All that has been changing in the wake of the financial reforms being carried out since the beginning of 1990s. Debt collection has become as important as loan giving for the PSBs. And the new prudential norms allow banks to account for outstanding dues only when they are collected. Credit sanction, monitoring and debt recovery have become a seamless process.

Even before the instalments are due the banks send a friendly intimation informing the borrower about it. If the dues are not paid in time, a polite notice is sent followed by registered notices every month. If the dues remain unpaid for more than six month, banks declare such loans "non-performing assets" (NPAs) and promptly set in motion a process to recover their dues.

A stern lawyer's notice is served first, followed by an offer for an out-of-court settlement. If that fails, the defaulters are taken to the fast track Debt Recovery Tribunals or Lok Adalats and if, even then, they fail to cooperate, the banks do not hesitate to take over the properties given as security for the loans and auction them to realise their dues under the SARFAESI Act.

Impaired loans

All these developments notwithstanding, it would be unrealistic to seek to bring about a marked improvement in the recovery or repayment culture of the PSBs and their borrowers overnight. It was for this reason that the RBI sought to bring down the loan impairment time — that is, the period of default before an account is declared non-performing — in a gradual manner. The default period was specified as 12 months from March 1993 and was reduced to nine since 1994. From 1995 onwards it was cut to six months. The grace period of one month allowed earlier before a due was treated as overdue or "past due" was also removed.Now, with a view to bring down the default period closer to international best practices, it is being further reduced to three months from March 31. Thus, from April this year, all bank dues pending for more than 90 days will be declared bad or non-performing and appropriate action will follow to recover the dues. Agricultural loans and export credit are, of course, exempted as their recovery is governed by separate norms.

Best practice

What is the international best practice in classifying a bad loan? "Even a cursory review of classifications system reveals the absence of international consensus on loan classifications approach," admits a World Bank survey of Bank Loan Classifications and Provisioning Practices in Selected Developed and Emerging Countries and explains, "In some countries non-performing means the loan is impaired. In other countries, it means that payments are past due, but there are significant differences among countries as to how many days a payment should be in arrears before past due status is triggered."

The survey concludes: "Nevertheless, a rather common feature of non-performing loans appears to be that a payment is `more than 90 days' past due."

Expanding on the rationale behind a time limit on bad loans, the survey report continues, "Most of today's classification regulations were enacted in the past 10 years, reflecting a growing awareness among banking supervisors of the importance of a classification system as the foundation for proper loan provisioning... Taken as a whole, these recent developments signal a growing awareness of the need to upgrade such regulations, in line with international best practices, in order to reduce the likelihood that inadequate loan classifications and provisioning may result in bank failures."

Ninety-day norm

In preparation for the implementation of the 90-day norm, Indian banks have already been directed to shift, since April 2002, to a system of charging of interest on a monthly basis instead of the current practice of charging interest on quarterly basis.

Interest has to be calculated on a monthly basis under the new system because borrowers are required to pay the interest for every month before the 10th day of the subsequent month or, in any case, before the next payment of interest is due. Failure to service interest every month will attract penal interest besides recall of the loan after three months.

There has been a general fear among the bankers that their NPA levels will shoot up significantly once the 90-day norm is implemented.

According to estimates, net NPA levels are likely to go up by 10 per cent in the next year. In some banks it could be higher. This is an obvious down side to the reform. Mindful of this, the RBI had directed the banks to set aside separate provisions for the change over to the 90-day norm from March 2002.

A more fundamental question that may arise in this context is "why impose international norms like this on an economy like India which is mostly unorganised, where even billing, the most basic requirement of commerce, remains largely optional?"

Prolonged delay in receivables has been a perennial complaint of the unorganised sector, particularly the small scale units. The critics might point to the experience of the Value added tax which everyone agrees is progressive but no one is prepared to implement.

The bankers too are likely to be, by and large, resentful of the change as it will undoubtedly entail an enormous amount of additional work; that too, at a time when most banks are managing with a depleted staff strength following the VRS option given to the banks.

These fears and drawbacks may be more than off set by the up side to the proposed change. Introduction of the 90-day norm is part of the ongoing banking reforms aimed at ushering in an efficient, business and customer friendly banking system which can conform to international standards.

Only an efficient and globally competitive banking system can offer timely and adequate credit at reasonable price to all classes of borrowers. Any banking reform has to be seen in this light.

The 90-day norm will make the banks follow up on every loan from the very first month after disbursement.

This can greatly help the banks to detect signs of sickness in time and start the recovery process before the default swells up or the assets financed by the loans deteriorate in value.

Seen from the borrowers angle, the new norm can impart them a much needed credit discipline to manage their finances properly.

It will curb the tendency among borrowers to keep postponing repayment of bank dues as the interest rates are below the bazaar rates. It is the experience of bankers that this mistaken notion has landed many a borrower in deep trouble.

Eventually the new norm can lead to a comfortable 90-day cycle of payment in the organised sector, which can meet the needs of liquidity and business growth in a competitive economy.

Banks have a key role to play here in educating the various sections of the borrowers on the banking reforms, in general, and the 90-day norm in particular. This can lead to a healthy banker-borrower relation.

(The author is an economist with Indian Overseas Bank and can be contacted at dvenu@vsnl.net)

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