Evergreening of loans
Source-RBI governor Shaktikanta Das cautions against evergreening of loans: Are banks, corporates still window-dressing loans?
Q. Why in Next/Context :
Reserve Bank of India Governor Shaktikanta Das raised concerns over
banks adopting over-aggressive growth strategies and using innovative methods
for evergreening of loans– covering up the real status of stressed loans of
corporates – to project an artificial clean image in cahoots with corporates.Das,
who was addressing bank board, red-flagged corporate governance issues and said
that during the supervisory process, certain instances of concealing the real
status of stressed loans have come to the notice of the RBI.
Q. What does evergreening of loans mean?
· It is reviving a loan
on the verge of default by extending more loans to the same borrower.
· The process of
evergreening of loans, a form of zombie
lending, is typically a temporary fix for a bank. If an account turns into
a non-performing asset (NPA), banks are required to make higher provisions
which will impact their profitability.
· NPA -A
loan turns into a nonperforming asset, or NPA, if the interest or instalment
remains unpaid even after the due date — and remains unpaid for a period of more than 90 days.
· So, to avoid classifying a loan as an NPA,
banks adopt the evergreening of loans. In the past, many banks had indulged
in dressing up bad loans and given additional funds to companies who didn’t
have the capacity to repay.
· Banks delay the recognition of losses due to loan
defaults and engage in evergreening,
which is essentially the rolling over of debts of unviable borrowers that would
have otherwise defaulted.
· This is purely misgovernance, so that bad loans are
made to look good many a time by additional lending to troubled borrowers.
· Some banks have even
extended such loans to wilful defaulters to keep them out of the defaulters’
books. Poor project appraisal management
by banks, especially public sector banks, and some shady promoters who were
known for fund diversion, joined hands to evergreen loans.
Q. Could the zombies crowd out good borrowers?
· There was evidence of
indirect evergreening in India – weak firms increase leverage by borrowing
through related parties from weak banks, but decrease real investment – which
often goes undetected. Such resource
misallocation supports the crowding-out effects ascribed to zombies,
according to an RBI paper on Zombies and the Process of Creative Destruction.
It results in credit being diverted to
weak entities – which is ultimately diverted for other purposes or it
becomes a bad loan – depriving the
genuine credit needs of good borrowers.
Q. How can evergreening be stopped?
· Wherever significant evergreening in a bank is
detected by the RBI, penalties should be levied through cancellations of
unvested stock options and claw-back of monetary bonuses on officers concerned
and on all whole-time directors, and the Chairman of the audit committee be
asked to step down from the board, said the Committee to Review Governance of Boards of Banks in India headed by
PJ Nayak. (IMPORTANT FOR PRELIMS)
· The audit committee,
in particular, needs to be particularly vigilant. If significant evergreening
is detected by RBI supervisors, it must mean that evergreening is wilful, with
support from sections of the senior management of the bank. It then becomes
necessary to levy penalties and action against the erring officers.
