From UPSC perspective, the following things are important :
Prelims level : Nothing Much
Mains level : Impact of Supreme court order cancelling RBI circular on credit availibility and way forward
The Supreme Court order quashing a circular issued by the RBI on the resolution of bad loans is a setback to the evolving process for debt resolution.
Impact of this order
- The voiding of the February 12, 2018 circular could slow down and complicate the resolution process for loans aggregating to as much as ₹3.80 lakh crore across 70 large borrowers, according to data from the ratings agency ICRA.
Need for the circular
1.Recognising defaults by Banks
- The circular had forced banks to recognise defaults by large borrowers with dues of over ₹2,000 crore within a day after an instalment fell due.
- And if not resolved within six months after that, they had no choice but to refer these accounts for resolution under the Insolvency and Bankruptcy Code.
2. Increasing share of Bad loans
- Mounting bad loans, which crossed 10% of all advances at that point
- The failure of existing schemes such as corporate debt restructuring, stressed asset resolution and the Scheme for Sustainable Structuring of Stressed Assets (S4A) to make a dent in resolving them formed the backdrop to this directive.
3. Breaking nexus
- The circular was aimed at breaking the nexus between banks and defaulters, both of whom were content to evergreen loans under available schemes.
4. Introducing Credit Discipline
- It introduced a certain credit discipline — banks had to recognise defaults immediately and attempt resolution within a six-month timeframe, while borrowers risked being dragged into the insolvency process and losing control of their enterprises if they did not regularise their accounts.
- RBI data prove the circular had begun to impact resolution positively.
Impact on Current banking situation due to order
- It is this credit discipline that risks being compromised now.
- It is not surprising that international ratings agency Moody’s has termed the development as “credit negative” for banks.
Faults with circular
- It is true that the circular failed to take into account the peculiarities of specific industries or borrowers and came up with a one-size-fits-all approach.
- It is also true that not all borrowers were deliberate defaulters, and sectors such as power were laid low by externalities beyond the control of borrowers.
- The RBI could have addressed these concerns when banks and borrowers from these sectors brought these issues to its notice.
- By taking a hard line and refusing to heed representations, the RBI may only have harmed its own well-intentioned move.
- it is now important for the central bank to ensure that the discipline in the system does not slacken.
- The bond market does not allow any leeway to borrowers in repayment, and there is no reason why bank loans should be any different.
- The RBI should study the judgment closely, and quickly reframe its guidelines so that they are within the framework of the powers available to it under the law.
- Else, the good work done in debt resolution in the last one year will be undone.