Moody's maintains negative outlook for Indian banks

Global ratings agency Moody's Investors Service has maintained its negative outlook on the Indian banking system for the next 12-18 months, citing the continued challenging nature of its domestic operating environment. Its rating has been negative since November 2011.

"This environment is characterised by slow economic growth, high inflation, high interest rates, and a weak local currency, and we expect these factors to lead to a further deterioration in asset quality, an increase in provisioning costs, and a fall in profitability," Vineet Gupta, vice president and senior analyst at Moody's said.

Moody's said the government provides strong support to public sector banks in the form of annual equity infusions, and all banks are mandated to meet loan quotas for certain sectors of the economy. This implies a high degree of involvement by the government in the banking sector and related public accountability.

Further, considering the high level of loan growth which, at about 15 per cent annually, is expected to continue outstripping internal capital generation, then most of the Moody's-rated Indian banks will be challenged to maintain capitalisation levels at current levels, and some will even need to raise new capital externally, Gupta added.

The ratings agency also said loan classification, especially regarding restructured loans, as well as provisioning requirement practices in India are weak. "Loan classification and provisioning requirements mask the extent of the banks' asset quality and capital challenges," Gupta said.

The government has budgeted Rs15,000 crore in capital infusion in public sector banks for the current financial year. Unlike last year, when the centre and the Life Insurance Corporation infused equity and increased stakes, this time the government wants banks to go for a rights issue. However, some banks are still hoping for direct equity infusion as they are unsure of investor appetite. Also, the money raised through a rights issue may fall well short of target as the current market capitalisation of the banks is very small compared to their capital requirements.