No immediate change likely in ratings of Indian banks

There is talk of loosening banking regulations in the US. Reducing regulatory compliance costs would support US banks' profitability, but threatens to chip away at the credit benefits of the act, which helps with strengthening of banks' balance sheets with reduced credit risk. If the US moves away from the Basel accord or deviates from the laid-down track, this could eventually have implications for other regions such as Europe, Asia and including India. There could be political pressure to water down regulations in these regions if there is a perception that US banks would have a competitive advantage.

Will banks see more downgrades with rising bad loans? From a Moody's perspective, asset quality pressure in the Indian banking sector had been building up since 2011, when we had a negative outlook on Indian banks. We changed our outlook to stable in 2015, by which time a meaningful proportion of stressed loans had already been recognized as impaired, and the problems had manifested themselves. In our rating process on Indian banks, we take into consideration economic risks which have already materialized, although bad loans have reported rises. The current stable outlook reflects our assessment that the system is moving past the worst of its asset quality down cycle. While the stock of impaired loans may still increase during the horizon of this outlook, the pace of new impaired loan formation should be lower than what it has been over the past few years.

Effect of demonetization re-monetisation on the finance sector: Demonetisation has led to a short-term impact on asset quality, particularly on segments such as small and medium enterprises. We expect the quarter ending March 31, 2017, to show more adverse trends. Nevertheless, the impact on asset quality from demonetisation should be manageable for the banking sector. Although banks have seen deposits swell, this will not sustain. Banks should only be able to retain 1-2% of the deposits they have accumulated during demonetisation. But, over the medium term, the pace at which remonetisation is completed will prove to be a material driver of banks' credit profiles.

Are Indian banks likely to see rating upgrade in the next two quarters? I believe six months is a relatively short time period for a rating upgrade. Our rating of banks globally is based on their standalone credit profiles and incorporate our expectation of government support. In the case of Indian banks, majority of our bank ratings carry a positive outlook in-line with the outlook on government of India rating. On a standalone basis, we expect the credit profiles of the Indian banks to remain stable. And, unless there is a change in the government's sovereign rating, we do not foresee any immediate change in banks' ratings.

How do you analyse RBI's latest regulatory changes? When it comes to bad loan resolution, the RBI is trying to ease the processes. But the central bank clearly cannot provide all solutions, which finally have to be resolved between borrowers and lenders. In case of NPAs of government banks, solutions will also need to involve views from the shareholders, including the government.

Indian banks among lenders in EMs: Overall, the profiles of Indian banks are not too different to other BRIC nations, although the ratings, given the sovereign support, vary.

Is consolidation of Indian banks easing capital pressure? From a credit perspective, industry consolidation would strengthen banks' bargaining power, help save costs and improve supervision and corporate governance across the banking system. These potential benefits, however, are outweighed by multiple downside risks. In particular, banks' weakened metrics since 2012 and weak performance mean that many have difficulties meeting minimum regulatory requirements without regular capital injections from the government. As a result, few public sector banks have the excess capital required to acquire meaningfully-sized peers. If consolidation is forced on the government and banks, it will be actually credit detrimental to the acquirer. A forced acquisition will be credit negative.