I started a business after retiring from the Navy. With a little capital, I started a business that involved “Waste Management”. The tagline of my Business is “From Garbage to Garden”. I sifted through garbage and collected many factory wastes and sold them to the end-user who use those as ingredients to make something else. Broken glasses collected from different states were sent to glass factories again. Used Plastic to Plastic factorises, and many more such clean-up jobs.
My business or the ragpickers provide serious value to society by reducing landfill sizes and by the very concept of reuse. But, like the guy who collects garbages from our house to keep society clean, we call them “KachraWala” instead of “SafaiWala”, the term “Bad Bank” also should have been called the “Good Bank”. I would have called it “Clean the Sin Agency” if given the chance to name it.
Facilitating a major clean-up of bad loans in the banking system, the Union Cabinet has approved a guarantee program of Rs. ₹30,600-crore for securities to be issued by the newly incorporated ‘bad bank’ for taking over and resolving non-performing assets (NPAs) amounting to ₹2 lakh crore.
What is a Bad Bank?
- A “Bad Bank” will act as a bank but has “Bad Assets” to start with.
- Technically, it is an Asset Restructuring Agency (ARC) or an asset management company that takes out bad loans from commercial banks, manages them and eventually recovers the money over a period of time.
- The takeover of bad loans is normally below the book value of the loan and the bad bank tries to recover as much as possible subsequently.
- Such a bank is not involved in lending and taking deposits, but helps commercial banks clean up their balance sheets and resolve bad loans.
Structure of the Bad Bank
- The NARCL-IDRCL structure is the new bad bank.
- The National Asset Reconstruction Company Limited (NARCL) has already been incorporated under the Companies Act.
- It will acquire stressed assets of around Rs 2 lakh crore from various commercial banks at different stages.
- Another entity – India Debt Resolution Company Limited (IDRCL) has been established. It will try to sell the stressed assets acquired by NARCL in the market.
How will NARCL-IDRCL work?
- NARCL will first buy bad loans from banks by paying 15% of the agreed price in cash and the remaining 85% will be in the form of “Security Receipts”.
- When assets are sold with the help of IDRCL, the rest 85% will be paid back to the commercial banks.
- If a bad bank is unable to sell a bad loan or has to sell at a loss, then the government guarantee will be invoked.
- The difference between what the commercial bank was supposed to get and what the bad bank was able to raise will be paid from the Rs 30,600 crore provided by the government.
What issues will a bad bank solve?
- From the perspective of a commercial bank with higher NPA levels, this will definitely help.
- Because Bad Bank would help the commercial bank to get rid of all its toxic assets, which were eating up its profits, in one quick move.
- When the recovery money is refunded, it will further improve Bank’s Balance Sheet.
- Meanwhile, the Bank may start Lending again.
Why do we need Bad Banks?
- A few years back, the RBI launched an Asset Quality Review (AQR) of banks and found that several banks had suppressed or concealed bad loans to show a healthy balance sheet.
- However, the idea didn’t see light amid a lack of consensus on the efficacy of such an institution.
- Due to many procedural issues, ARCs didn’t have any effect in resolving bad loans.
- Even if commercial banks start lending again, so-called bad banks, or banks with bad loans, will try to sell these “assets” in the market.
What is Good about bad banks?
- The problem of NPAs continues in the banking sector, especially among weaker banks.
- The concept of bad banks, in some ways, is similar to an ARC but is initially funded by the government, with banks and other investors co-investing in a timely manner.
- The presence of the government is seen as a way to expedite the process of clean-up.
- Many other countries have established institutional mechanisms, such as the Troubled Asset Relief Program (TARP) in the United States, to deal with stress in the financial system.
