Demonetisation could delay asset quality recovery in banks:Fitch

MUMBAI: The recovery in asset quality for Indian banks could be delayed because of the disruptive impact of cash shortages on the country’s large informal economy due to demonetisation, global credit rating agency Fitch said in a report on Tuesday.

Fitch said that the stressed asset ratio for Indian banks will probably worsen beyond its forecasted 12% in the financial year ending March 2017 higher than the 11.4% recorded in the last fiscal year.

“There is now a risk that the ratio will climb higher. We still believe that asset-quality indicators are close to their weakest level and will recover slowly over the next few years, but any turnaround is likely to have been pushed back by at least two quarters,” Fitch said.

Fitch expects the impact on asset quality to show significantly in the January-March quarter. The rating agency said that Reserve Bank of India’s (RBI) forbearance on some loans to the agricultural sector and small businesses, will not have much of an impact because there are a relatively small share of outstanding bank lending.

“Cash shortages caused by the demonetisation of large-denomination currency notes have affected the income of many borrowers - by holding back economic activity - and reduced their short-term repayment abilities. Demonetisation has also weighed on loan growth, at least in the short term,” Fitch said.

Loan demand weakened because banks focussed on cash management instead of normal lending activities. Some sectors like mortgages were impacted as home sales fell 44% year on year last quarter. Fitch expects that loan growth will be below its previous forecast of 10% for the current fiscal and may even slow from the 8.8% recorded last year.

However, over the long term demonetisation could support loan growth due to the surge in low cost deposits for banks. “Some banks have already responded by lowering lending rates - by up to 90 basis points in State Bank of India's case - which could help revive credit demand, particularly if there are further cuts. We think there is scope for further lending rate cuts, but much will depend on the proportion of new deposits that remains in the banking system,” Fitch said.