Finance Minister Nirmala Sitharaman on Monday, as part of the Union Budget 2021, announced the setting up of an entity to address the stressed assets of banks. The organisation will be set up through an Asset Reconstruction Company (ARC) model, she said in her speech. Details of the proposals are still awaited.
This institution, what is commonly known as ‘bad bank’, will be a major boost for bad asset resolution in the financial system and has been in discussions for long. Banks can transfer bad assets to this entity at a discount. Experts will then attempt for a resolution through a professional approach, while originating banks can focus on new business.
To be sure, the idea of a bad bank itself is not new. In 2018, the government announced a plan for PSBs called 'Project Sashakt', which had a five-point plan for bad loan resolution in public sector banks. The government then spoke of a model, with the guiding principles of an Asset Management Company resolution approach, under which an independent AMC would be set up to focus on asset turnaround, job creation and protection. The functions of this new company will be aligned with the Insolvency and Bankruptcy Code (IBC) process and IBC laws, the government had said.
The government did not call it a bad bank then and made it clear that it won't get involved in the bad asset resolution process and the process will be led by banks. Why the timing of a bad bank is right? There are five reasons why the timing is apt for the creation of a bad bank.
The existing stock of bad loans is a big worry for banks. At the end of September 2020 year, the total gross NPAs of the banking system was 7.5 percent of the overall industry loan book. This is expected to shoot up to 13.5 percent by March-September this year, according to the Reserve Bank of India’s projection.