Centre may tell IBA to set up 'bad bank' with financial support from banks

The IBA wanted the government to invest and control the ARC to give some level of comfort to the lenders because the present ARC mechanism in the market hasn’t shown expected results.
The Centre is likely to tell the Indian Banks’ Association (IBA) to set up its proposed “bad bank” with financial support from banks, instead of asking the government to become a promoter. “If the banks want, they can set it up through their own funds,” a senior finance ministry official said.

In a proposal to the finance ministry and the Reserve Bank of India, the IBA had proposed a national-level asset reconstruction company (ARC) owned by the government with its capital infusion worth Rs 10,000 crore. This would have allowed the “bad bank” to take up bad loans from banks worth Rs 70,000 crore.

The IBA wanted the government to invest and control the ARC to give some level of comfort to the lenders because the present ARC mechanism in the market hasn’t shown expected results.

“The banks won’t hesitate to put money in the ARC once the government invests in it. The problem of transferring assets to the existing ARCs is that when multiple banks are involved, they are unable to take a unanimous decision,” a senior IBA executive said, adding it would continue to persuade the government and the RBI on this. The IBA has proposed selling non-performing assets (NPAs) to the “bad bank” at the net book value so that lenders don’t have to take a haircut. 


The finance ministry official cited above said the idea of setting up the “bad bank” through sovereign support was not on the government’s priority list. “There are so many ARCs in the market and there is no point in the government investing in yet another one,” he said.

The official said the government’s focus right now was to ensure a smooth credit flow for economic activities to resume vigorously. This is being done through the 100 per cent emergency credit guarantee scheme, which seeks to give support worth Rs 3 trillion to businesses. 

Till July 4, banks have sanctioned loans of Rs 1.1 trillion and disbursed more than Rs 56,000 crore.

According to the IBA’s proposal, there will be the government-owned ARC, an asset management company, which will be run by the banks that hold stakes in the bad assets, and professionals, besides an alternative investment fund (AIF). 

The proposed ARC will buy the assets by transferring 15 per cent of the amount through cash and the rest through security receipts. 

With professionals on board, the AMC will do an operational turnaround of the assets and attract institutional funding through AIFs.

“There are differences in valuing an asset, which leads to major hindrances in selling bad loans under the present ARC mechanism. A government-backed ARC will have credibility and give confidence to the whole machinery,” the IBA executive said.

The proposal for setting up the “bad bank” has come at a time when the economy is reeling from the pressure of the pandemic, which has seen businesses being completely shut under the national lockdown.

This is when the IBA had decided to frame the idea of a national-level ARC led by the government. A “bad bank” essentially helps banks to clean up their balance sheets by transferring the NPAs to the specialised ARC, which could restructure the debts of firms.



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