View: Put depositors first. Relief to borrowers not at their cost

A government committee set up to consider the issue of interest waiver on loans that enjoyed a six-month moratorium because of Covid-19 may only provide partial relief and that too on the compound interest component and not on the primary interest, ET reported on Friday.
Last week, RBI governor Shaktikanta Das had also weighed in on the side of borrowers. Rightly so.

Banking starts with depositors — people reposing, if one thinks, disproportionately large trust in those who set up banks. They commit their savings to banks without much recourse or guarantee — essentially a kind of unsecured lending, backed only by an institutional/regulatory structure for comfort. (Only this year, the deposit insurance available to borrowers was raised to Rs 5 lakh from paltry Rs 1 lakh earlier.)

Banks are highly leveraged, multiplying manifold their meagre risk capital by taking deposits. If just the core equity capital is considered, the leverage could be as high as 10 times for banks. No other industry can have such high leverage and yet raise funds.

Banks are allowed this special dispensation because they perform the crucial economic task of financial intermediation — moving surplus from savers to investors or borrowers who have more productive use of those funds. This business of intermediating savings will not have scale or meet the needs of the economy if capital requirements are kept high.

The risks of high leverage are mitigated through a strong regulatory regime to ensure prudent banking. This gives borrowers comfort to trust their savings with banks. Measures to provide relief to borrowers that undermine this trust, the very basis of banking, can have serious consequences.

Brokerage firm Macquarie estimates total interest on moratorium loans at Rs 2.1 lakh crore. There will be an another Rs 15,000 crore bill if interest on accumulated interest is waived. If this burden were to fall on banks, it would eventually devolve on depositors — they would see a much lower interest payout or no interest for a period. Of course, owners of banks, those who provided risk capital, too, would take a hit as banks suffer valuation loss.

Bank depositors are typically the most risk averse — the retired earning monthly income from deposits, or those saving for the future or simply keeping savings safe in banks till it’s needed. Denying interest to crores of such depositors to benefit a few lakh borrowers, as the RBI governor said, can cause immense misery.

Of course, borrowers need help or else large-scale bankruptcy and stress can impact the economy. That, however, cannot be funded by depositors as the consequences can be even more severe for the economy if banking loses depositor trust.

WHAT IS THE SOLUTION?
The entire amount that went into moratorium, estimated at about 25% of banks’ loan book, may not have been stressed. Some borrowers could have taken recourse to it in abundant caution. With the opening of the economy, those borrowers may not need further support.

The only issue for such otherwise viable borrowers is: should they be levied interest on the interest due for the moratorium period? There is no case for waiving primary interest for such borrowers. It would also discriminate against borrowers who did not opt for a moratorium.

That leaves those genuinely stressed and still in no position to service their borrowings. Instead of a one-size-fits-all solution or relief for them, a case-by-case approach is required. The RBI has provided a framework for resolution of stressed assets based on the recommendations of the KV Kamath committee.

The moratorium loans also need to be resolved under that framework to the extent possible. This could include tenure relief, converting debt into equity, top-up loans or whatever is feasible to get these businesses running.

There will be some that will fail, but that is a consequence of Covid. Should the government step in to bail these out? The question then needs to be asked, is that the best use of public money in a time of pandemic?

The only relief that can be provided is waiving interest on accumulated interest and that too from government funds, instead of already burdened banks taking the hit.