Why are Indian Banks Resilient in the Face of Global Crises?

Last year, we saw the fall of Silicon Valley Bank, which threw the whole US banking system into jeopardy. A few months later, Switzerland’s Credit Suisse declared bankruptcy, which was later acquired by its rival UBS. This incident questioned the reputation Switzerland held as a global finance stronghold. The resulting reverberation of these banks resulted in depositors losing trust, resulting in panic withdrawing their money, thrusting the banks into a liquidity crisis, and leaving them in a financial mess.

The aftermath of these events threw the European and US economies into turmoil, leading respective government and regulatory agencies to step in and take corrective measures without shareholder approvals. Credit Suisse was strongly integrated with the global banking system, and numerous nations were impacted, but why was India not impacted by these serial collapses? Why is it so robust? Why don’t its major banks fail and remain unflinching in the face of global crises? Numerous analyses have been carried out, and some interesting results have been obtained.

Lower Loan-to-Asset Ratio

In an interesting paper authored by researchers from Stanford University, it was found that 190 banks in the US have similar chances as SVB collapsing if half of the uninsured depositors were to withdraw their money, leading to $300 billion worth of assets being put at risk. Less than 1% of investors accounted for more than 46% of the bank’s deposits, and 93% of the money in the banks was uninsured.

Compared to the Loan-to-Asset ratio of 65% maintained by SVB at the time of its collapse, Indian banks maintain a Loan-to-Asset ratio of 36% and all the deposits are invested in government securities. The deposit base is also very granular as the top depositors’ portfolio only makes up less than 9% of the bank’s total balance. This proactive risk management by the banks has resulted in a protected balance sheet with minimal exposure to adversities.

"Risk management can help micro businesses prepare for unanticipated future events by identifying potential risks and taking proactive steps to mitigate them," Rohit Karnatak, Vice President, Pinkerton Comprehensive Risk Management India.

Domestic Centric

Unlike the majority of overseas banks that have a strong portfolio in international markets, Indian banks invest strongly in domestic markets. This proclivity shields them from the repercussions of international crises. This inclination also results in them having a strong understanding of the local market dynamics, which enables them to respond in a timely manner to domestic challenges.

SVB was a bank that catered to purely tech companies, and the majority of its assets were tech-focused. Indian banks follow a completely different approach; they have a diversified portfolio, and in a way, they don’t put all their eggs in one basket. These investments are diversified across various sectors throughout the nation. This strategy has allowed the banks to minimize risks while yielding stable returns.

Robust Regulatory Framework

India has had its fair share of banking challenges. The banking regulator, RBI, has come up with numerous regulatory remedies for every challenge it has encountered so that it may never be repeated. It plays a pivotal role in ensuring the strength of the Indian banking sector. It periodically conducts stress tests, outlines risk management guidelines and protects them from external shocks.

During COVID-19, the RBI held the line on the financial front. As a one-time measure, RBI reduced the cash reserve ratio of all banks by 100 basis points to 3% of Net Demand and Time Liabilities (NDTL), which will result in liquidity enhancement of about INR 1.37 lakh cr. These, along with the liquidity policies it had mandated for the banks, ensured the stability of the Indian economy during the pandemic.

Insolvency and Bankruptcy Code (IBC)

This was one of the policies passed by the Indian government, which ensured banks and investors got their money back from bankrupt companies. This allowed investors and banks to recover the majority of the funds from bankrupt organizations; before this policy was put into force, most of the loans had to be written off as bad loans. However, with this measure, the company, instead of going out of business, will be kept operational by optimizing all the performing assets until the money is recovered. This allows for the defunct entity to be acquired in the meantime.

A well-known example of how well this policy worked was the bankruptcy of Essar Steel, which, at the time of insolvency, had a debt of $6.1B. The National Company Law Tribunal (NCLT) was involved, and a resolution officer was appointed to keep the company operational. Two years later, in 2019, the company was able to raise $6.5B to repay its creditors, and Arcelor Mittal India and Nippon Steel Japan acquired it.

A lot of conclusions can be drawn from the way Indian Banks operate. They are very conservative and risk-averse in terms of how they handle money. However, it is this very approach that allows them to grow organically. There is a level of trust they have earned as the majority of them are owned by the Government of India. They demonstrate that resilience is not a product of luck but a result of prudent planning, foresight and adaptability in the face of adversity. As India’s economy is increasingly growing and making itself presentable for global investments, banks and regulatory bodies are also keeping an eye on the health of the Indian economy.