Banks’ impairment provisioning to decline amid improved biz climate

The hefty provisions made for possible loan defaults in 2020 are expected to decline this year amid strengthening of small businesses and higher loan growth.

According to First Capital Research, banks made provisions at their peak levels for possible bad loans, necessitated by the bleak outlook for business and economic recovery. 

However, as the things are returning to normalcy, that could ease such provisions, as the business cycle for small businesses is normalising, indicating they are rebuilding their financial heft.  

“Impairment provisioning is easing in 2021E onward after 2020 peak,” First Capital Research said, adding that “improved business climate may lower impairment provisioning”. 

In what is referred to as the ‘Provision Coverage Ratio’ in banking parlance indicates the amount of funds a bank has kept aside covering loan losses, if a loan goes bust. 

This ratio reached 61.3 percent in 2020 in the banking sector, the highest level in three years, as banks built additional buffers out of profits, expecting loan losses to mount. 

But as the economy recovers and the businesses begin to generate cash flows sufficient to service their loans after the moratoria expire, the banks can either reduce or reverse part of their provisions. 

For instance, there was a 50 percent decline in the number of applications for moratoria at the second round of relief deployed in October 2020, from the levels seen in the initial round. This is a reaffirmation that small businesses, which mostly applied for the payment holiday, are making a comeback. 

Banks build provisions against future losses, as they take a more prudent approach for accounting. 

Meanwhile, the research house remains confident that the private sector credit would return to double-digit levels as desired by the Monetary Board but is of the view that the lending caps may take a heavy toll on banks’ SME and retail portfolios. 

“We estimate a single-digit growth in SME and retail portfolio, due to lending caps lowering our private sector credit growth, resulting in lower spreads during 2021,” First Capital Research added. 

The Monetary Board expects to expand the outstanding private sector credit by a robust 14 percent in 2021, which translates into a little in excess of Rs.850 billion in fresh credit. 

First Capital Research expects the private sector credit to grow by 12 percent in 2021.