Growing NPAs in Banks- Efficacy of Ratings, Accountability and Transparency of CRAs

Growing NPAs in Banks-Efficacy of Ratings, Accountability and Transparency of CRAs D. R. Dogra MD & CEO

Non- Performing Assets in the Banking Sector • A sample of 24 public banks and 15 private banks- • Trends in Gross NPAs (Rs. crore)

Why are NPAs increasing? • External factors • Slowing economic growth • High interest rates • Prevailing high inflation • Investment related Policy uncertainty to stalled/ failed projects • Internal factors • Not strong credit appraisal procedures • Inadequate monitoring • Willful Default • …………….

What Should the Banks Do? • Enhance institutional skill levels • Synchronization of credit lending with economic environment. • Regular monitoring • Pick up early warning signals • Better risk management systems

Role of Credit Rating Agencies • An independent risk assessment body • Bridges information asymmetry • Helps in efficient allocation of capital • Provides early warning signals for banks • Regular monitoring through annual surveillance • ..................But CRAs face three challenges

Efficacy of Ratings • Ratings need to be accurate • Ratings need to be robust and indicative of changing economic conditions. • Should pick up signs before problems set in • Surveillance exercises brings this in • Ex-post checks • Cumulative default ratios important here • Transition studies to track movement of ratings ….Indian CRAs have done well on following global benchmarks

Accountability • A generalized view- • CRAs actually do not have stake in the rating given and hence little accountability. • But • Credibility is the most important test for CRA • market belief is important • Investor decides whether or not to accept the rating given by any CRA ….CRAs have to continuously hone their skills and be updated with latest methodologies Growing NPAs in Banks

Transparency • Disclosures • Methodologies • Assumptions • Rating • Rationale to be provided • Provide a summary of discussions with an issuer’s management, auditors and bankers. • Deal with the conflict of interest • Analysts separate from business teams • Remuneration not linked to ratings Growing NPAs in Banks

Going Ahead….. • Given the ‘EAT’ principle is in place, banks can blend this knowledge, which is available to all, with their own portfolios to put additional controls and relook at their own quality of portfolio. • Banks need to make use of ratings beyond meeting the specific objective of the Basel II norms for the purpose of capital adequacy. • Hence, Banks should track ratings given by CRAs on daily basis for early signals. Growing NPAs in Banks

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Growing NPAs in Banks- Efficacy of Ratings, Accountability and Transparency of CRAs