Before starting, it is important to understand what Recapitalization is. It is a simple measure to alter the financial structure of a firm in order to make it better equipped to face the market and to discipline the business model for doing better business. In the case of our Public Sector Banks, it simply means to empower them to face the NPAs better.
Now coming to the topic, recently Ministry of Finance announced an INR 2.11 Lakh Cr Recapitalization into the public sector banks. Of the given sum, 1.35 Lakh Cr to be issued by Government as Recapitalization Bonds and balance 0.76 Lakh Cr to be raised from budgetary allocations and fundraising from the market.
The measure was hailed by many, including all the leading banking and financial firms, but few also raised doubts. Such investment is pegged to help the Banks fight their current NPAs and clean their balance sheets which is well taken. However, doubts were raised on the account if government will raise such huge sum of money from external agencies as government has no such provision in their budget leading to huge debt.
The given contrary arguments actually raise the question if the given step is a renaissance of the PSBs or just a bail out from their current bad loan situation with government getting deeper into debt.
Within one day of the announcement being made, the market rallied with all the major public sector bank share seeing huge demand. Almost all the public sector banks saw a surge by minimum 15%. This resulted in the influx of approx. 1 Lakh Cr as against a target of 0.76 Lakh Cr.
As already aware, during the exercise of demonetization around 15 Lakh Cr. cash was deposited with the banks which they were unable to lend at their previous levels as there was a slowdown in the Industrial output due to fall in demand. It is this same money that Government is now taking from the banks by issuing Recapitalization Bonds to that bank, amounting to 1.35 Lakh Cr.
The capital generated by issuing recapitalization bonds will be infused into the public banks as equity of government. These bonds will have an additional cost implication of approx. INR 8000 Cr per year (assuming Reverse RR). Also the capital generated will appear as a debt in the books as the budgetary provision for the same has been only INR 18,000 Cr (budgeted in previous budget, lying un-utilized) and thus raising concerns over the Fiscal deficit target of 3%.
The union budget for the financial year 2017-18 was presented in 1st Feb 2017 in which the total revenue collection of the government was estimated as INR 19.11 Lakh Cr. The direct tax component was 9.8 Lakh Crore and the indirect tax component was INR 9.31 Lakh Cr. During the budgetary exercise, the impact of Operation Clean Money (result of Demonetization) and Goods & Services Tax might not have been considered as trends and data for both the cases were not clear.
If the Direct Tax collection is analysed now with the current numbers and figures of Tax base, it seems that government may end up with the figure of INR 10+ Lakh Crore as against a projection of INR 9.8 Lakh Crore in the union Budget. (For Details: Demonetization:impact on direct tax).
In the Union Budget, total collection of Indirect Tax was projected to be INR 9.31 Lakh Cr of which Customs comprised INR 2.45 Lakh Cr, Union Excise Duty comprised INR 4.07 Lakh Cr., Service Tax comprised INR 2.75 lakh cr. and UT taxes comprised 4679 Cr. With implementation of GST, the Excise Duty and Service Tax were abolished and the projected figure for Central GST became 6.82 Lakh Cr. However if current collections figures of average 93,000 Cr per month, which is by only 65% of registered firms, is interpolated for the financial year assuming only 85% of them filing GST for the financial year 2017-18, then the given figure stands at approx. 50,000 Cr more than the budgeted figures of 6.82 Lakh Cr.
It can clearly be stated that the principal of INR 1.35 Lakh crore in the books of government can be written off with 2 to 3 Financial Terms, which is the risk government seems to be taking in order to give a push to the banking reforms. But with above said, it seems clear that government may not be able to stick to their Fiscal Deficit target of 3%.
Having said that, it seems pretty clear that the recapitalization may not just be a bail out attempt of the Public Sector Banks by the Government, by taking the risk of debt on themselves, but an attempt to lead them to fight their NPAs by absorbing the losses on account of the NPAs with government having backup resources to write of the debt. However, with such a huge amount being invested, it’s also now the responsibility of the government to come out with stricter norms of lending to avoid any NPAs in future.
Source of Data:
- Tax Collection Data source: Budget Report by Ministry of Finance
- Actual GST Collection : Official Press release of Ministry of Finance.