OCTOBER 30, 2018

By TIOL Edit Team

THE Comptroller and Auditor General (CAG) Rajiv Mehrishi has done well to point out that recapitalization of public sector banks (PSBs) is subsidy. His observation should trigger a debate on recapitalization for whom and how many times.

The other day he observed: "In the present banking crisis, we all have a narrative about how it can be sorted out, recapitalisation of course, which is a very strange word to be used for the subsidies, but nobody is asking the real question that what actually the regulator (Reserve Bank) was doing. What is its role, what is its responsibility "?

Equally strange is CAG's different perception about recapitalization in its reports prepared at different points of time. Does it mean CAG can become accommodative to politically sensitive issues such as non-performing assets (NPAs)-triggered recapitalization?

We have a few more questions purely from the standpoint of public perception about CAG as torch-bearer of transparency and accountability:

Why has CAG not come up with reports or studies on impact of Demonetization and Goods and Service Tax (GST)? Is CAG over-awed by Modi Government?

Or, has there been an internal decision to avoid controversies such as the ones caused by certain CAG reports submitted during tenure of Vinod Rai?

Before elaborating on recapitalization, let the basics be clear. Banks' recapitalisation by the Government is nothing but an indirect way of subsidizing or writing-off of loans extended to the corporate sector. It is a perennial feature of Indian banking system. There would have been no need for Government equity & debt funding had the banks followed prudential lending norms and operated in a professional manner.

Had PSBs enjoyed autonomy at par with private sector banks, they would have improved their debt-equity balance like any other private company without dole-outs from the Government. They might have consolidated their positions through mergers and acquisitions many years ago.

It is interesting to note that CAG report on Recapitalisation of Public Sector Banks submitted last year did not use the word 'subsidy' at all. The report bears signature of Mr. Mehrishi's predecessor S.K. Sharma. Is Mr. Mehrishi's observation a belated realization that CAG should have not overlooked subsidy angle? Or, is it a correction of CAG's stance?

Way back in 2001, CAG saw recapitalization of PSBs, regional cooperative banks and other banks as implicit subsidization. It had computed the estimated subsidies.

According to CAG report 'Union Government (Civil) Accounts of the Union Government (1 of 2001)', "The government provided budgetary support to nationalised banks to increase their share capital. The government arranged with the nationalized banks that they reinvested an equal amount in government securities, to make the government's additional capitalisation of the banks budget-neutral ".

The report stated: "Although the move was intended to restore the PSE Banks to better financial heath, to the extent the dividends received by the government fell short of the interest (10%) it paid to the banks on the government securities, this step was tantamount to giving implicit subsidy to the nationalised banks".

CAG reiterated its stance on budgetary recapitalization of banks as deemed subsidies in another report 'Union Government Accounts of the Union Government No.50 of 2015 (Financial Audit)'.

As put by this report, "Budgetary support to financial institutions and banks, inadequate returns from investment in PSUs and inadequate recovery of user charges from the social and economic services that are provided by the Government fall in the category of implicit subsidies".

A similar stance on recapitalisation was adopted by RBI's Advisory Group on Fiscal Transparency (AGFT). In its report submitted during July 2001, AGFT noted: "A major aspect of non-transparency related to indemnities is the potential demand on the central government for recapitalising public sector financial institutions".

AGFT aptly contended that the Government does not have any formal obligation to recapitalise these institutions.

It added: "The implicit burden on the government for recapitalisation of public sector banks is also not reported, nor is the potential liability associated with implicit government guarantees of other public financial institutions, such as the Unit Trust of India which received some support recently".

The fact is that the Government neither wants to close NPA-burdened PSBs nor privatize them. Control over them is what it does not want to part with. Hence, periodic infusion of funds in them.

The Government follows a similar approach in repeated restructuring of non-viable public enterprises in other sectors. The most notable case in point is Air India. The money pumped in as recapitalization/restructuring can be used in a better and profitable way. The Government is only now offering for outright sale enterprises that are basket cases.

National exchequer-funded recapitalisation is thus nothing but a fig leaf for crony capitalism and populism. It also reflects political leadership's reluctance to antagonize bank unions.

In August 2015, Finance Ministry had unveiled Rs 180,000 crore PSBs' recapitalization plan captioned 'Indradhanush'. Of this, Rs 70,000 crore was to be infused by Government over 4 years ending 2018-19. The balance Rs 1,10,000 crore was to be raised by banks.

According to Ministry's demand for grants for 2018-19, the Govt. later opted for Rs.2,11,000 crore "Front-loaded Bank Recapitalisation". It says: "This recapitalisation would be done over the course of the next two years through budgetary provisions, recapitalisation bonds and balance through raising of capital by banks from the market while diluting Government equity".

CAG should seek details from the Ministry to decide how much of this recapitalisation budget can be deemed as subsidy.

Ideally, the Government should issue a white paper on NPAs and recapitalization since the nationalization of banks. The paper should also suggest ways to avoid next round of recapitalization.

The best way to minimize NPAs and recapitalization would be to ask all business houses to present a comprehensive annual report on its companies as group report. It should show which company raised how much money from which source and what for. The report should indicate net worth of the Group and how much it is leveraged.

Simultaneously, RBI should crack the whip on banks that over-lend without verifiable, collateral and personal guarantees. Lending against intangible assets such as brand name should be banned.

RBI, SEBI and other regulators should jointly specify comprehensive norms for disclosure by companies that exceed normative debt-equity norms for sectors in which they operate.