Characteristics of a Twin Balance Sheet Problem in an Economy

• During a period of economic boom, the corporate sector tends to over-expand, resulting in unmanageable financial obligations.
• As a consequence, companies default on their debts, leaving the banks' balance sheets impaired.
• This scenario is detrimental to economic growth. Companies trapped in this predicament are often hesitant to invest, while those with sound financial health show little interest in investment.
• Furthermore, banks also suffer from a financial crisis due to the accumulation of Non-Performing Assets, which restrict their ability to lend.

The Genesis and Evolution of the Crisis

• The roots of the Non-Performing Assets (NPA) problem can be traced back to certain policy decisions made in the mid-2000s.
• During this period, the world economies, including India, were booming, with India's GDP growth rate soaring to 9-10 percent per annum.
• State-run banks continued to lend during this boom period, while the corporate sector, especially infrastructure companies, experienced robust growth fueled by easy access to credit.
• However, the Global Financial Crisis of 2007-08 hindered this growth, affecting revenue generation from these investments.
• As a result, companies that borrowed domestically were hit hard when the RBI increased interest rates to counteract double-digit inflation.
• By 2013, almost one-third of corporate debt was owed by companies with an interest coverage ratio of less than 1, primarily in the crucial Power infrastructure and metals sectors.

Government Measures to Address the NPA or Twin Balance Sheet Problem

The 5/25 Refinancing of Infrastructure Scheme

• This scheme provided a larger window for the revival of stressed assets in the infrastructure sectors and eight-core industrial sectors.
• Under this scheme, lenders were permitted to extend amortisation periods to 25 years, with interest rates adjusted every 5 years.
• However, this arrangement also led to a higher interest burden on the companies, forcing banks to extend additional loans and exacerbating the initial problem.

Private Asset Reconstruction Companies (ARCs)

• ARCs were introduced in India under the SARFAESI Act (2002), with the idea that they could relieve banks of the burden of resolving problem loans.
• However, ARCs found it challenging to resolve the assets they purchased, so they were only willing to buy loans at low prices.
• Consequently, banks were unwilling to sell them loans on a large scale.

Strategic Debt Restructuring (SDR)

• The RBI introduced the SDR scheme in June 2015 to allow banks to convert the debt of certain companies.
• This scheme was intended for companies whose stressed assets were restructured but could not meet the conditions attached to the restructuring exercise.

Asset Quality Review (AQR)

• Resolution of the problem of bad assets requires proper recognition of such assets.
• Therefore, the RBI emphasized AQR, to verify that banks were assessing loans in line with RBI loan classification rules.

Sustainable Structuring of Stressed Assets (S4A)

• Under this arrangement, introduced in June 2016, an independent agency hired by the banks was to decide on how much of a company's stressed debt is 'sustainable'.
• The unsustainable portion was to be converted into equity and preference shares.

The Need for a Public Sector Asset Rehabilitation Agency (PARA)

• The NPA or Twin Balance Sheet (TBS) crisis has affected both banks and many companies.
• Therefore, a centralized agency like PARA is required for effective resolution.

Functions of PARA

• PARA would purchase specified loans from large, over-indebted infrastructure and steel firms from banks.
• Once the loans are off the books of the public sector banks, the government would recapitalize them, thereby restoring them to financial health and allowing them to focus their resources on the critical task of making new loans.

Conclusion

The Twin Balance Sheet problem is a crucial issue that affects the corporate and banking sectors. It leads to stagnation in investment and hampers growth in the economy. It is hoped that a centralized agency like PARA will facilitate a faster resolution of these issues. A healthy banking sector, coupled with an increase in investment, will be a boon for our economy in the long run.