For the next two years, there should be more upside. Indeed, for banks on most major credit measures, things are up – credit losses have normalised; NPAs are coming down; Higher interest rates are pushing up net interest margin; And the return on average assets is inching toward pre-pandemic levels.
So, what is the better credit outlook for India’s banks? Among the key drivers is India’s medium-term economic growth rate, which looks set to remain the strongest in our emerging markets universe. GDP is expected to expand 6.5%-7% annually in fiscal years 2024-2026.
While India’s real GDP growth is likely to slow in FY24 as monetary conditions tighten and consumers grapple with high inflation, macro headwinds and global uncertainties are having little impact on India compared to many other economies, Given that India is domestically oriented. In such a situation, the impact of macro conditions on the banking sector will also be minor. be important for Indian banking Sector, asset quality should keep improving. Bad loans (non-performing loans and restructured loans) of the banking sector are likely to come down to 4.5-5% of gross loans by March 31, 2024. This is inching towards levels not seen since FY2013, and well below the peak level of 12.5%. seen in FY 2018 and 8% mark seen in FY 2021.
Similarly, the sector’s credit cost, or credit deficit, as a percentage of total loans should fall to its lowest level in seven years at around 1.2% in FY2023, and at around 1.1-1.2% for the next few years. Must be stable. This puts the credit cost at par with other emerging markets and India’s 15-year average. The SME sector and low-income households remain vulnerable to rising interest rates and high inflation. Yet, in the base case of moderate interest rate hikes, these risks are limited.
Over the next few years, credit growth should pick up somewhat in line with the trajectory of nominal GDP, with credit growth to the retail sector continuing to exceed that of the corporate sector. Corporate borrowing is also picking up pace, although the uncertain economic environment could delay growth related to capex. Shift from capital market funding to bank funding is also driving corporate loan growth.
On the other hand, deposits may find it difficult to keep pace, leading to a weakening of the sector’s credit-to-deposit ratio. However, this ratio has improved over the years. Not only this, the funding profile of the banks should be good, backed by a strong deposit franchise.
One challenge that is likely to persist is the ongoing sharp polarization in the performance of banks. This is despite the substantial 1% of the system return on average assets. State Bank Of India And major PSBs have largely addressed their asset quality challenges, and their profitability is improving faster than that of the overall system.
Many large PSBs still grapple with weak assets, high credit costs and poor earnings. Similarly, a mixed-bag performance is expected for finance companies. The asset quality of these fincos is often weaker than that of major private sector banks. Higher interest rates will boost net interest margins for most financial institutions. However, worse-than-anticipated headwinds will reduce credit demand, put pressure on SMEs that are still recovering from the effects of the pandemic, and push highly leveraged consumers to the edge of default.
Another risk worth watching is the threat of cyberattacks, which are growing in frequency, scale and sophistication, potentially exposing increasingly interconnected banking systems around the world. Although top-tier banks, including those in India, are reasonably prepared to manage such risks, an attack could badly damage an institution financially and reputationally. In particular, data breaches could prove crippling for individual banks.
(Seth-Chhabria and Chugh are Associate Director and Senior Director, respectively, of S&P Global Ratings)