Regulatory forbearance reduced the Indian banking industry’s need for fresh basic capital to meet minimum regulatory capital requirements through the year ending March 2025 (FY25), according to Fitch’s latest baseline assumptions Ratings.
However, according to the global credit rating agency’s crisis scenario, it estimates that state-owned banks would need a total of $ 50 billion in fresh capital during the period up to l ‘year 25 to maintain their CET1 ratios above the regulatory minimum of 8%.
The system’s lower-level fresh capital requirement of $ 27 billion eliminates excess capital from private banks. The stress scenario incorporates less favorable assumptions on the economic outlook.
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Fitch Ratings observed that the system’s capital requirements are lower than its estimates for 2020, but this in part reflects the effects of regulatory forbearance and is unlikely to create near-term upward momentum for ratings. viability of Indian banks.
In 2020, Fitch had estimated the higher capital requirements for the system (primarily state banks) at $ 15 billion and $ 58 billion under moderate and high stress scenarios, respectively. These stress tests assumed that the stresses related to the quality of the assets were recorded over a period of two years.
The agency’s updated assessment, spanning a four-year period, reflects the key role of regulatory forbearance in removing upfront capital requirements by postponing the timely recognition of stress on asset quality. and by giving banks time to build capital buffers.
Fitch pointed out that the delayed implementation of International Financial Reporting Standards (IFRS) means that the ability of Indian banks to make preventative provisions is quite limited, being driven by losses incurred rather than expected losses.
Deferred recognition of stress will thus cushion the cost of credit for Indian banks, supporting their ability to generate capital internally through profits. “This, coupled with the continued delays in fully implementing the Basel III capital conservation buffer, will limit the capital requirements of the banking sector, including state-owned banks, in our view,” Fitch said. in a report on “Capital Estimates for Indian Banks”. .
The agency said its updated capital findings also reflect a significant amount of equity capital raised by private banks since the start of the Covid-19 pandemic, its expectations of modest credit growth and its forecast for India’s economic recovery.
NPL ratio
According to Fitch’s assessment, the estimated peak NPL (NPL) ratio of 9.7% by FY25 in its latest baseline scenario is lower than its previous moderate stress case estimate of 13. 4%.
This mainly reflects a more gradual unwinding of loans restructured into bad debt after FY22 (over two or three years, giving clients more time to pay) coupled with the agency’s reassessment of less stress in certain key segments, such as than retail.
Fitch expects banks’ operating profitability to improve to FY23 in light of deferred credit costs.
Stable net interest margins (NIMs), low financing costs and cash gains supported banks’ operating profitability before provision, offsetting the effects of weak credit growth.
Loan growth
The agency sees loan growth and risk appetite as key determinants of the sector’s capital needs.
Fitch believes that banks with more vulnerable capitalization positions will be reluctant to deploy capital for growth, instead preserving it to deal with the impact of asset strains as they emerge in the future.
The agency estimated that state banks have a lower base capitalization than private banks, and its base scenario assumes that their lending growth will average 4 percent in fiscal years 22 to 25, or less than the system credit growth of 6.7%.
However, there is a risk that their credit growth will exceed this threshold, if policymakers influence lending decisions.
Large and medium-sized private banks should be able to withstand stress better, given their much stronger basic capital cushions (CET1: 16.4% vs. 10.4% for state banks over the course of exercise 21).
