NPAs: Putting the legal system in place

IN 1999-2000, there was a marked improvement in the proportion of net NPAs to net advances with the number of public sector banks with net NPAs increasing by 10 per cent, from 18 to 22.

Similarly, the number of old private sector banks and foreign banks with net NPAs of less than 10 per cent went up from 17 to 18 and from 27 to 31 respectively. New private banks continued to have net NPAs below 10 per cent in 1999-2000.

The level of NPAs of the banking system has improved in recent years, but it still remains high. A significant part of the problem is because of the carry-over of old NPAs in certain sunset industries. The problem is often complicated by the fact that there are a few banks which are fundamentally weak and where the potential for return to profitability, without substantial restructuring, is doubtful.

The resolution of the NPA problem requires greater accountability on the part of corporates, greater disclosures in the case of defaults, and an efficient credit information system. Action has been initiated in all these areas, and it is expected that with stricter accounting and prudential standards and appropriate legal support, NPAs will be effectively contained.

The problem of NPAs is closely tied to the issue of legal reforms. Recognising that the legal framework pertaining to the banking system might act as an impediment to its efficient functioning, initiatives have been taken to align the legal set-up with the requirements of the banking system. The legal framework is a key ingredient for limiting moral hazard.

Given the high transactions costs of finality of settlement, including legal costs, there is an urgent need for developing workable laws on contract, collateral and bankruptcy proceedings and implementing and streamlining court procedures for seeking effective and rapid remedies under these laws. The issue would assume greater importance as economic liberalisation gathers momentum. Otherwise, the continual state of innovation and evolution of new financial products in the liberalisation process would outpace the existing legislation and raise the need for implementing fine and sharper points of law. It is, therefore, essential that the requisite legal framework is quickly put in place.

In India, the issues pertaining to legal framework were examined by the expert group under the chairmanship of Mr. T. R. Andhyarujina, former Solicitor General of India. The group, in its report submitted in February 2000 to the Government, recommended, among other things, the creation of a new law-granting statutory power of possession and sale of security directly to banks and FIs and the adoption of the draft Securitisation Bill. It has also suggested the provision of additional avenues of recovery of dues to banks and FIs by empowering them to take possession of securities and sell them for recovery of loans. The report is under the Government's consideration.

(Edited-extract from the Report of Trend and Progress of Banking in India, 1999-2000, published by the Reserve Bank of India.)