“A bad bank is a corporate structure to isolate illiquid and high risk assets held by a bank or a financial organization, or perhaps a group of banks or financial organizations. In these circumstances, the bank may wish to segregate its “good” assets from its “bad” assets through the creation of a bad bank.”
The idea of setting up a centralized public asset management company (PAMC) or “bad bank” to solve the problem of stressed loans is gathering steam. The Economic Survey 2016-17 proposed the setting up of a public sector asset rehabilitation agency (PARA), which is essentially a centralized bad bank. In a recent speech, Reserve Bank of India (RBI) deputy governor Viral Acharya said there is a “sense of urgency” to decisively resolve Indian banks’ stressed assets. One of his proposed solutions is the creation of a PAMC for sectors in which assets are economically unviable in the short-to-medium term, like the power sector.
That State Bank of India chairman Arundhati Bhattacharya is open to any new solution, including that of the bad bank, to sort out the bad loans problem, shows that years of revival efforts have ended up being a band-aid solution only when what was needed to end the acute pain was a surgery.
“The bad bank is a good idea if we have the ability to answer which is a transparent fair mechanism of determining clearing price,” says Uday Kotak, executive vice-chairman of Kotak Mahindra Bank.
“Otherwise, at what clearing price would a bad bank buy assets from banks?” The idea of the bad bank, or Public Sector Asset Reconstruction Agency (PARA), is old wine in a new bottle, which was presented by CEA Subramanian in his latest Economic Survey.
Such institutions have been created in Southeast Asia and even in the US. The $700-billion Troubled Assets Relief Programme (TARP) of the US Treasury during the 2008 credit crisis was there to deal with bad loans.
The bad loans problem has been a chicken-and-egg situation for banks. As sellers they were reluctant to mark down the value of the assets and potential buyers, the under-capitalised asset reconstruction companies, were unwilling to pay what the banks were demanding. One solution could be a rating of bad loans.
We have integrated various reports to develop a not on Bad Banks and its various models, which can be downloaded as below