In the quarter ended June, India’s largest private sector bank made a provision of Rs4,831 crores for bad loans, the highest since the onset of the Covid-19 pandemic, signalling that it expects its lenders to struggle with repayment in the coming months.

The situation at non-banking lenders and microfinance institutions, which provide loans and other financial services to poorer sections of society, is even more worrisome.

Bad loans at non-banking lenders in India

During the second wave of Covid-19 in April and May, infections in rural and semi-urban areas intensified much more than in the first wave last year. This, together with continuous stress in urban markets would lead to higher bad debt and impairment costs for NBFCs, Fitch Ratings said in a report in July.

“…prolonged asset quality challenges would constrict their (large non-banking financial institutions) funding. Smaller NBFIs, particularly microfinance, and unsecured lenders with regional portfolios could face greater funding strains,” Fitch said.

When will India’s banking sector recover? 

Most experts believe there will be a continued strain on lenders’ asset quality in the coming quarters given the expectations of an impending third wave of Covid-19, which may further hit the collection and recoveries across portfolios and geographies in India.

The NPAs of scheduled commercial banks are expected to rise to 9.8% by March 2022 (pdf) under the baseline scenario, as against 7.5% as of March 2021, the RBI said in its latest Financial Stability report released in March.

The recent second wave of coronavirus cases will continue to exert near-term pressure on India’s non-bank financial institutions, said Fitch Ratings. “The recovery in the September quarter is likely to be gradual as states reopen cautiously to prevent a third wave of infections amid an uneven vaccination rollout,” it said.

Many analysts believe that banks may need to improve the provision coverage ratio in the upcoming quarters to cushion against a possible rise in bad loans. Continued policy support and strong loss-absorbing buffers will help to mitigate the negative impact of deteriorating asset quality, according to rating agency Moody’s.

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