New Delhi: The Union Cabinet approved a proposal to provide a government guarantee of Rs 30,600 crore for security receipts issued by the National Asset Reconstruction Company (NARCL) for a period of five years as part of the resolution of the bad debts, Finance Minister Nirmala Sitharaman said Thursday.
The proposed bad bank or NARCL will aggregate bad loans or NPAs in banks’ balance sheets and handle them as well as dispose of them in a professional manner, the finance minister said. NARCL will pay up to 15% of the agreed value of the loans in cash and the remaining 85% would be government guaranteed collateral receipts.
According to reports, NARCL is offering to acquire stressed assets of around Rs 2 lakh crore in phases. The first phase will transfer Rs 90,000 crore of bad debt to NARCL.
The government guarantee would be invoked in the event of a loss compared to the threshold value.
Informing reporters of the decision, she said the banks had recovered Rs 5.01 lakh crore from overdue loans over the past six years. Of this amount, Rs 3.1 lakh crore has been recovered since March 2018.
What is a bad bank?
A bad bank is established to separate stressed assets held by a bank from its productive assets. Once the separation is effected, the stressed assets are removed from the bank’s balance sheet. This helps to clean up the bank balance sheet. At the same time, the bad bank takes care of the service of the transferred stressed assets and their liquidation in time.
Put simply, a bad bank buys stressed loans at a discount and sells them for a better price (or sometimes even at a loss). For example, there is a default loan of Rs 100, and the bad bank buys the loan at Rs 70. Then the bad bank offers this loan to other companies, who may want to buy it, at a better price. . Basically an asset worth Rs 100 is now bought at, say, Rs 75.
As bad debts in the Indian banking system are expected to swell amid an economic slowdown, a proposal to create a ‘bad bank’ has been put forward by the Union government in order to better manage ‘bad debts’ ( non-productive assets) of banks in the sector. (Bad debts are largely loans that haven’t been repaid for 90 days or more.)
According to economic commentator Vivek Kaul, the total of bad debts written off between April 2013 and March 2021, a period of eight years, amounts to a mind boggling Rs 10.83 lakh crore.
The origin of a bad bank occurred in the 1980s, with the United States and Sweden becoming its first adopters. Several governments have since adopted this idea with mixed results.
(With PTI entries)