Could the distant war have an effect on Indian lenders? What are some challenges?
Could the distant war have an effect on Indian lenders? What are some challenges?
the story So Far: S&P Global earlier this week predicted that banks in India would face ‘headwinds’ as a result of the Russia-Ukraine conflict. The rating agency flagged rising inflation and borrower ‘stress’, which could impact the ability of companies to fully repay loans.
What is the impact of the war in Eastern Europe on India?
The war has affected the production and movement of a wide range of raw materials and commodities. For example, Ukraine is the main source of sunflower oil imported into India. Supply has naturally been hit and is bound to push up retail prices of edible oils further.
The conflict has also forced Ukraine to close two neon factories that account for about 50% of the global supply needed in manufacturing semiconductors. As semiconductors become scarce, user industries bear the brunt. Already, the global chip shortage has extended the waiting period for deliveries of new premium cars in India to several months. And with major carmakers reporting declining sales for January and February, the profit outlook for these companies and their component suppliers looks pretty bleak. The domino effect on the supply chains of automobiles and other industries can impair the ability of businesses, especially medium and small enterprises, to fully repay their loans.
What are other factors that can undermine a company’s ability to repay debt?
Oil has been on the boil since Russia invaded Ukraine on February 24. Brent crude prices were trading at $106 a barrel till Friday, after hitting a historic high of around $139 a barrel. India’s state-run oil marketing companies to raise the retail prices of petrol and diesel as soon as possible are sure to feed the high cost of transportation into the prices of everything from agricultural produce to raw materials and finished products for factories. . store shelves, thus accelerating inflation across the board.
Higher input costs for manufacturers and service providers would leave them in a difficult position as they would have to choose between passing the price increase to consumers – thus risking already weak demand – and if they could absorb the impact. If they choose to do so, it hurts their profitability. Here again small businesses, which rely the most on bank loans, are bound to be the hardest hit. If the war in Europe lasts longer, Indian banks may face delays in repayment of loans or possibly even write them off as ‘bad’.
Separately, the dollar’s gains from global flight to low-risk assets coincided with the start of the US Federal Reserve’s calibrated monetary tightening to restrain inflation from 40-year highs in the world’s largest economy, The rupee is expected to weaken. against the US currency. With the exchange rate affected, importers will have to spend more rupees for the same dollar value of imports than before. Unless demand expands, allowing them to sell in excess, a weaker local currency eats away at their profits, leaving them with less cash available to service loans.
Official figures for February show that total goods imports are growing faster than exports compared to a year ago, widening the current account deficit (CAD). Crisil Ratings said on March 17 that the rupee may further weaken to $77.5 per dollar by March 2023 due to the increase in CAD, which is from 75.
Rising inflation, which is already beyond the RBI’s upper tolerance limit of 6%, may prompt the central bank to raise benchmark interest rates. This means that those companies will have to pay more interest which will face less profit potential.
Earlier this month, India Ratings said a rise in commodity prices could lead to an increase in the working capital cycle for small and medium enterprises (SMEs), weakening their debt servicing capacity.
Why is the situation particularly worrying for Indian banks?
India’s lenders were already struggling to deal with a plethora of non-performing assets or bad loans, even before the pandemic severely hit the overall economic momentum.
In its Financial Stability Report for December 2021, the RBI had warned that from a gross non-performing asset ratio of 6.9% in September 2021, commercial banks were likely to see a metric increase to 8.1% in the baseline scenario and possibly to 9.5. % in a state of ‘severe stress’ by September 2022.