Retail credit boom may not last long, SCBs should monitor portfolios closely

In the recent period, it has been observed that Scheduled Commercial Banks (SCB) in India has been focussing more on retail credit like housing, vehicle loans, personal loans, credit cards, loan against salary, clean loans for personal purposes etc. These retail credits may be secured and unsecured. The duration of the loan under housing and vehicle loans are for medium and long term and other retail loans are for ultra short or for periods less than 36 months. One of the advantage of these retail loans is they are disbursed to a large number of customers of the bank and credit risk is widely dispersed. Whereas, in corporate loans, the number of such customers are few in number and credit risk is concentrated in few customers and in terms of large corporate loans, concentration risk is very much visible and the risk of default and probability of default are also greater.

The SCBs have been largely affected due to large number of such corporate group failure in servicing loans due to economic, regulatory, poor financial management, management failure, diversion of funds, few corporate fraud and governance lapses etc, being the reasons for such large NPA experienced in banking industry in the recent past which has now been cleaned and banks have enhanced their credit and other risk management systems and enhanced due diligence, higher standards of credit appraisal, tightening of credit monitoring, able supervision of credit disbursements and operations in the account , pro active and prudent provisioning , etc. The Government and RBI bringing various legislative laws like IBC, Sarfesai Act, DRT and RBI regulatory rules governing NPA management, restructuring of loans, wilful defaulters, fraud management etc, have yielded the desired results and banks are now in an better position as to Net NPA which is below 1 per cent and provisioning coverage exceeding above 80 per cent and recovery performance has also been appreciable.

At the same time, due to good liquidity and appetite for good rated corporate bonds in the capital market, and few taking advantage of equity market by raising additional capital, corporates for a short period took recourse to alternative sources of funding both in India and abroad. Particularly during Covid-19 due to excess liquidity pumped in by RBI , more than 12 lakhs crores as per package to ease the situation arising out of severe pandemic, we could see corporates raising more than 10 lakh crores each during 2020, 2021 which they utilized to deleverage of their borrowings and prepay loans , which resulted in share of corporate credit to total credit in SCB falling down. However this situation has since changed and as the interest rates have shown substantial upward trend due to RBI increasing repo rate by 250 basis points to 6.25 per cent, corresponding market has responded with coupons on corporate bonds going up. The capacity utilisation has also gone up to the pre Covid level and few new corporate investments are also seen and corporates have since turned towards banks for their enhanced working capital requirements and new term loans.

It is therefore to be seen that banks earlier resorting to greater disbursal of retail credit and enhancing the share of retail credit to total credit, may be a short term and medium term strategy and cannot be a long term strategy. It is reported in latest RBI Bulletin, in an article written by RBI officials Sujeesh Kumar and Manjusha Senapati, "Retail credit trends- A snapshot that based on the estimated retail bank credit cycle, the ongoing "retail-shift" may not be permanent, but rather cyclical in nature and credit growth may not continue to be high". According to the article, accelerated bank credit growth to the industrial sector largely drove the overall bank credit growth till 2013-14. Later the credit growth started slowing down being impacted by the increased non-performing assets (NPA) of the banks. The article further adds that on the other hand, the contribution of retail loans to overall credit growth started increasing and currently is highest among all sectors. During the Covid period, the average contribution of retail loans to overall credit growth was much higher than industries/services sector credit. This trends is continuing even in the post Covid period. According to the article, the estimated cycle also reveal that the higher retail credit growth registered recently may be cyclical- the "retail-shift" may not be structural. With the expected revival of capex cycle, the retail credit growth may slow down.

The retail credit outstanding at the end of March 2023 was Rs 40.85 lakh crore, more than the double that in March 2018. According to the article, the share of retail loans by the SCBs in aggregate credit had increased from 24.8 per cent in March 2018 to 30.7 per cent in March 2022 and further to 32.1 per cent in March 2023. While this enhanced retail credit growth has given a stable credit growth to SCBs in India, to presume that they are free from risk is not wise one. According to the article, the resulting credit concentration in the retail segment can be a source of systemic risk (RBI 2022). Any excessive focus or reliance on one sector namely retail credit can be a source of enhanced credit default which can arise due to economic shock, low level of retained earnings, lesser disposable income, higher inflation affecting individual income or any shock like Covid affecting everybody. Moreover, if SCBs focus more on housing which are always for longer periods, there may be excess asset liability mismatch in terms of duration risks, which may get badly affected, in times of adverse economic periods.

We cannot presume that retail credit is free of NPA even though they are currently at manageable level. As said earlier, any major shock to income levels of individuals, may result in higher default and greater NPA arising from retail sector. According to the article, the SCBs expectations of retail credit demand moderated and loan terms and conditions expected to be tightened in Q3 2023-24 based in the estimated credit cycle. Moreover housing and vehicle loans are sensitive to interest rates and the asset quality of the banks' loan portfolio, the authors mention in their conclusion. SCBs will have to be vigilant and monitor the retail credit at a granular level on continuous basis to evaluate the impact of financial sector developments on the overall economy, the article concludes.

The SCBs are currently well aware of the impending risks to different sectors, would have reviewed credit policy and risk limits on an ongoing basis to avoid any concentration of risk among different sectors. The portfolio study, sector analysis, industry wise and individual bank wise study, rating wise distribution of credit, external and internal rating study, migration analysis, credit audit etc, should be placed to the Board and any suitable suggestions to credit policy, risk management etc, to be taken up for suitable strategic direction.

To add to the general belief that credit growth is always in line with overall GDP growth. The RBI article and the empirical results indicate that there is a positive relationship between bank credit growth and lagged GDP growth. It is also a fact that enhanced demand for credit either individual or corporate sector are expected whenever there is an expectation of higher economic activity and consequent expectations of GDP growth. Whenever economy gets heated, there is a gap between demand and supply which leads to price rise and inflation expectations which leads to interest rate increase thereby cooling of economy and lesser GDP growth. Hence according to the article, a negative relationship between bank credit growth and interest rates are expected where increase interest rates reduce demand for credit. Further article adds that a bank's higher NPA ratio is expected to have negative impact on bank credit growth as banks become more cautious not to lend to risky borrowers to keep NPA ratios low. This was evident in the recent period when credit growth was low when banks faced with large NPA level. It is only in the last two years with economic revival and better position of NPA levels, banks credit growth started moving up say at 15 per cent. It therefore suggests that banks have to constantly keep an eye on economic cycle and sectoral exposure and credit growth to avoid any futuristic problems arising out of NPA increase due to economic upheaval.

(The author is former

Chairman & Managing Director of Indian Overseas Bank)