TIGHT liquidity conditions, high interest rates and a slowing economy have all contributed to a soaring bad loans’ portfolio for banks in India.

Last week, the Reserve Bank of India (RBI), the country’s central bank, revealed that the collective gross non-performing assets (NPA) ratio of banks rose to 3.25 per cent in the June quarter, up from 2.94 per cent in the previous three-month period.

“Deterioration in the assets quality and in the macroeconomic conditions resulted in added risk aversion in the banking sector,” said the central bank. Governor D. Subbarao noted that gross NPAs were 3.25 per cent of total advances at the end of the first quarter and bad loans were deteriorating. Worse, the governor saw no turnaround in the NPA situation until the economy picked up.

Subbarao, who released the RBI’s half-yearly monetary policy review last week, disappointed the markets, the banking sector, the corporate world and even the government by not opting for a reduction in interest rates. The central bank was widely expected to announce a marginal cut in rates, but Subbarao preferred to stick to his tight monetary policy.

Citing the continuing threat to the economy from inflation, Subbarao announced a mere 25 basis point cut in the cash reserve ratio (CRR). The RBI governor has been fiercely resisting pressures from the government to ease his tough monetary policy by reducing interest rates. But this time, the government was clearly unhappy with the central bank.

“The government is doing its best to send the clear message that we are on the path of fiscal consolidation,” was the terse comment by finance minister P. Chidambaram, who expressed his displeasure with the RBI in no uncertain terms. “It is my hope that everyone will read and understand the government commitment to the path of fiscal consolidation.”

The Indian economy has decelerated sharply in recent months and much of the blame for the slowdown is because of the tight-fisted policies of the RBI. Of course, the United Progressive Alliance (UPA) government had also given the impression that it was not interested in pushing ahead with reforms and was content at blaming its allies.

However, last month the government finally decided to overrule opposition from its supporters and pushed ahead with a slew of reforms, including raising the price of diesel, slashing subsidies on cooking gas and announcing the opening up of the retail sector to foreign direct investment (FDI).

Mamata Banerjee, the West Bengal chief minister and chief of the Trinamool Congress – which was the biggest ally of the Congress-led UPA – withdrew support from the government, which however, survived thanks to the backing of groups such as the Samajwadi Party and the Bahujan Samaj Party.

According to Chidambaram, “growth is as much a challenge as inflation. If the government needs to walk alone to face the challenge of growth, then we will walk alone,” he said, reacting to RBI’s second quarter policy review.

The RBI believes that inflation could continue to haunt the economy over the next quarter, before it starts easing in January.

But even then there is no guarantee that the central bank would start the process of reducing rates.

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BUT alarm bells have started ringing in the corridors of power over the escalating NPAs of banks, especially public sector ones.

Last week, two state-owned banks revealed that their bad loan exposures were soaring. Bank of India reported a 32 per cent jump in gross NPA during the quarter ending September 30.

This was the worst performance for the bank in eight quarters. The total gross NPAs and restructured loans stood at 9.5 per cent of its total loan book for the bank. It also reported a 38.5 per cent drop in net profit.

Indian Overseas Bank, another state-owned bank, announced that its Rs1.2 billion exposure to troubled Kingfisher Airlines could become an NPA in the current quarter (October-December). Seventeen banks led by State Bank of India have a huge exposure to the airline, owned by liquor baron Vijay Mallya.

The politically well-connected Mallya managed to get the loans from the nationalised banks restructured about two years ago.

About Rs7.5 billion of debt was converted into equity by the banks, paying a hefty premium. While the banks paid Rs65 per share, the Kingfisher scrip is today trading at around Rs12.

Even after the restructuring, the airline began defaulting on its loans, adversely affecting the NPAs of many of the banks. But Mallya is not the only politically-connected businessman, whose borrowings from state-owned banks are turning soar, despite opting for corporate debt restructuring.

T. Venkataram Reddy, one of whose relatives is a powerful Congress MP, is also in deep trouble with his media empire on the verge of collapse. Reddy, who had to sell his Hyderabad-based Indian Premier League team, Deccan Chargers, earlier this month to a little-known Mumbai builder, is another entrepreneur who is giving sleepless nights to bankers and other lenders.

Axis Bank, a private sector lender, last week declared its exposure to Deccan Chronicle Holdings Ltd as an NPA. The bank has a nearly Rs4 billion exposure. A consortium of 21 banks has a Rs41 billion exposure to the company.

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THE RBI allowed banks to go in for corporate debt restructuring (CDR) schemes to enable their borrowers to repay their loans, without their having to classify it as NPAs. CDRs are usually allowed to ease terms when borrowers face problems following some natural calamity. But following the global financial crisis of 2008, RBI allowed banks to offer CDRs to borrowers to help them to tide over the critical debt problem.

But recent months have seen a surge in CDRs. According to the RBI, the quantum of restructured loans shot up by nearly 60 per cent last year; they added up to a whopping Rs2.18 trillion as on March 31, 2012.

Banks have been receiving record numbers of proposals from borrowers for restructuring loans. The RBI is now discouraging banks to go in for such restructuring. K. C. Chakrabarty, deputy governor, RBI, recently warned banks who were misusing the facility. “In the recent past, many unviable accounts were restructured by establishing viability only with some kind of financial engineering,” he said.

Last week, Standard & Poor’s also warned that the NPAs of banks could double by March 2013. According to the agency, NPAs for the Indian bank industry could exceed Rs5.8 trillion by the end of the current fiscal. Other agencies have also issued similar dire warnings. Fitch Ratings estimates that the gross NPA ratio will shoot up to 4.2 per cent by March 2013. NPAs have doubled in three years to Rs1.37 trillion, while restructured loans have nearly trebled to Rs2.18 trillion during the same period.

NPAs are growing in sectors across the economy including infrastructure, power, gas, roads and highways, media and aviation.

The central bank has also warned lenders to share information on credit exposure with other banks. The RBI has warned of action against banks that do not share such data with others. It believes that one of the major factors leading to deteriorating asset quality is the absence of sharing of information among banks about defaulting borrowers.

From the beginning of 2013, banks will be allowed to sanction new loans or renew existing ones only after they share information with other banks. The central bank has threatened to impose penalties on banks that do not share such information.