WASHINGTON DC: India could be underestimating distressed assets in the banking sector because of asset restructuring practices and the way it defines these assets, the International Monetary Fund said in its assessment of the global financial system.
"While many countries have been active in adopting more stringent impaired loan recognition standards, there are concerns about asset restructuring practices and lax definition of distressed assets in some cases," the Global Financial Stability Report released on Wednesday said. "The resulting risk of underestimating true asset quality problems appears particularly relevant in China and India," warned the report that was released ahead of the spring meetings of the IMF and World Bank in Washington.
The report notes that 'slowing growth and project delays have led to an increase in restructured assets, amounting to about 6% of total Loans' and contrasts that with the 2008 cycle when 15%-20% of such loans turned bad. "Emerging market economies must keep the guard up against deteriorating bank asset quality and disruptive short-term flows," Jose Vinals, financial counsellor, IMF told reporters. Vinals said prudential policies should be deployed to ensure adequate buffers in the financial system and to prevent the excessive build-up of leverage and asset price bubbles.
He also cautioned against prolonged use of easy monetary policies in advanced economies, warning easy money is spilling to emerging markets.
"Borrowing on international markets by emerging market corporates has been growing at a record pace, exposing them to foreign currency risks and rising leverage," he said adding that this made emerging markets more sensitive to volatile capital flows. Another of the Fund's report 'Fiscal Monitor' released a day earlier had also pointed to a possible under estimation of bad assets.
"...historically about 15% of assets reported as "restructured" (a category that likely accounted for 7.3% of the public banks' assets as of September 2012) are eventually classified as nonperforming," the Fiscal Monitor noted. India's official estimates show gross non-performing loans of the banking sector has risen to 3.7% of advances by December 2012 from 2.36% at the end of March 2011. The bulk of this slippage in asset quality came from the state run bank.
The numbers could go up as the Reserve Bank of India has tightened the reporting requirements of banks to get a clearer picture of the asset quality of banks.
The deterioration in the asset quality could increase the capital needs of banks, which already need to comply with the higher capital needs under the Basel III rules.
The Fiscal Monitor assesses state owned banks alone need capital to the extent of about 1% of GDP cumulatively between 2013 and 2019.
Vinals said decisive policy actions had benefitted the global financial stability by reducing acute risks but cautioned gains could not be sustained and new risks are likely to emerge unless policymakers address key vulnerabilities.
"It seems in the global financial markets, where after repeated storms and threatening clouds, some blue sky and more sunny days are emerging" he said.
The multilateral lender urged the Federal Reserve and other central banks to keep a close watch on their efforts to revive economic growth as these could create asset bubbles and destabilize financial markets.
Asked if central banks should continue with monetary easing, he said : " When the patient is still at the treatment you should not suspend the medicine... You need to be vigilant about the side effects of the medicine....".