Financial Stability Report:
The Reserve Bank released the 24th issue of the Financial Stability Report (FSR), which reflects the collective assessment of the Sub-Committee of the Financial Stability and Development Council (FSDC) on risks to financial stability and the resilience of the financial system.
It details the state of financial stability in the country, and it is prepared after taking into account the contributions from all financial sector regulators.
Sub-Committee of the Financial Stability and Development Council (FSDC) is headed by governor of RBI
Highlights:
- The global economic recovery has been losing momentum in the second half of 2021 in the face of resurfacing COVID-19 infections, the new variant Omicron, supply disruptions and bottlenecks, elevated inflationary levels and shifts in monetary policy stances and actions across advanced economies and emerging market economies.
- On the domestic front, progress in vaccination has enabled the recovery to regain traction after the debilitating second wave of the pandemic, notwithstanding signs of slowing pace more recently; the corporate sector is gaining strength and bank credit growth is improving.
- The capital to risk-weighted assets ratio (CRAR) of scheduled commercial banks (SCBs) rose to a new peak of 16.6 per cent and their provisioning coverage ratio (PCR) stood at 68.1 per cent in September 2021.
- Macro stress tests for credit risk indicate that the gross non-performing asset (GNPA) ratio of SCBs may increase from 6.9 per cent in September 2021 to 8.1 per cent by September 2022 under the baseline scenario and to 9.5 per cent under a severe stress scenario.
- SCBs would, however, have sufficient capital, both at the aggregate and individual levels, even under stress conditions.
- Emerging signs of stress in micro, small and medium enterprises (MSME) as also in the micro finance segment call for close monitoring of these portfolios going forward.
What is Financial Stability:
- Financial stability is a condition in which an economy’s mechanisms for pricing, allocating, and managing financial risks (credit, liquidity, counterparty, market, etc.)are functioning well enough to contribute to the performance of the economy (as defined above).
- Financial stability is important as it reflects a sound financial system, which in turn is important as it reinforces trust in the system and prevents phenomena such as a run on banks, which can destabilize an economy.
Overview
The Financial Stability Report (FSR) is published biannually and includes contributions from all the financial sector regulators. Accordingly, it reflects the collective assessment of the Sub Committee of the Financial Stability and Development Council (FSDC-SC) on risks to financial stability.
Macrofinancial Risks
- The global recovery has been losing momentum in the second half of 2021, impacted by resurgence of infections in several parts of the world, supply disruptions and bottlenecks, persistent inflationary pressures and shifts in monetary policy stances and actions across systemic advanced economy (AE) central banks as also some emerging market economies (EMEs).
- Tightening of global financial conditions, superimposed on elevated domestic inflation has roiled EMEs, in particular.
- The US dollar posted large appreciations vis-a-vis EME currencies, which were also weakened by stubbornly rising energy prices.
- Capital flows to EME bond markets are showing signs of tapering off and flowing out, while equity flows have turned volatile.
- Realignment of interest rates in the process of policy normalisation could lead to discretionary shifts in portfolios among banks as well as recalibration of banking sector liabilities. More recently, Omicron has cast a shadow on global economic prospects.
Domestic Economy and Markets
- On the domestic front, the second wave of the pandemic showed distinct signs of subsiding by July 2021. Localised restrictions have been eased and the engines of growth have started revving up, aided by progress in vaccination. During April-October 2021, all the deficit indicators of the central government exhibited improvement from their pre-pandemic levels.
- The borrowing programme has proceeded smoothly.
- The Indian corporate sector has gained strength and resilience through the pandemic and key financial parameters of listed non-financial private companies indicate improvement. Bank credit growth is showing signs of a gradual recovery, led by the retail segment, although flow of credit to lesser rated corporates remains hesitant. Micro, small and medium enterprises (MSMEs) as also the micro finance segment are reflecting signs of stress.
Financial Institutions: Soundness and Resilience
- SCBs continued to bolster their capital – capital to risk-weighted assets ratio (CRAR) of SCBs reached 16.6 per cent in September 2021 – and their return on assets (RoA) and return on equity (RoE) were maintained in positive territory.
- While the asset quality of banks showed improvement, with the gross non-performing assets (GNPA) and net NPA (NNPA) ratios declining to 6.9 per cent and 2.3 per cent, respectively, their slippage ratio inched up in September 2021.
- The provisioning coverage ratio (PCR) increased from 67.6 in March 2021 to 68.1 per cent in September 2021.
- Macro-stress tests for credit risk show that SCBs’ GNPA ratio may increase from 6.9 per cent in September 2021 to 8.1 per cent by September 2022 under the baseline scenario and to 9.5 per cent under a severe stress scenario. The stress tests show that all banks would be able to comply with the minimum capital requirements even under severe stress scenarios.
- The CRAR of urban co-operative banks (UCBs) stood at 12.9 per cent in September 2021 while that of NBFCs stood at 26.3 per cent.
- Network analysis indicates that the total outstanding bilateral exposures among constituents of the financial system have been on an upswing since H1:2020-21, with SCBs having the largest share of bilateral exposures albeit still below pre-pandemic levels.
- In terms of inter-sectoral exposures, asset management companies/mutual funds (AMC-MFs), followed by insurance companies, remained the dominant fund providers in the system, while NBFCs were the biggest receivers of funds, followed by housing finance companies (HFCs).
- A simulated contagion analysis showed that losses due to failure of the five banks with the maximum capacity to cause contagion increased in September 2021 vis-à-vis March 2021, but they would not lead to the failure of any additional bank.
Regulatory Initiatives and Other Developments in the Financial Sector
- The global regulatory environment continues to evolve and get refined in spite of the pandemic. Financial regulators are devoting attention to distilling the lessons learned from the pandemic, analysing the ripple effects of rollback of policy support measures and enhancing the resilience of the financial system.
- On the domestic front, Government and financial sector regulators continued with their efforts towards achieving a sustainable recovery and enhancing the resilience of the financial system.
Assessment of Systemic Risk
- In the Reserve Bank’s latest Systemic Risk Survey (SRS), all broad categories of risks to the financial system – global; macroeconomic; financial market; institutional; and general – were perceived as ‘medium’ in magnitude, but risks arising on account of global and financial markets were rated higher than the rest. Commodity prices, domestic inflation, equity price volatility, asset quality deterioration, credit growth and cyber disruptions were rated as the major risks.
Systemic Risk Survey
Respondents to the 21st round of Systemic Risk Survey perceived all broad groups of risks to the Indian financial system (viz., global spillovers; macroeconomic uncertainty; financial market volatility; institutional vulnerability; and general risks) as ‘medium’. Their perception of risks to financial stability included: (a) new wave of the pandemic and new mutations of the coronavirus; (b) faltering of the uneven economic recovery; (c) elevated inflation driven by global energy crisis and supply-side disruptions; and (d) disorderly monetary policy exits. A majority of them expected better prospects for the domestic banking sector over the next one year.
Risks to Financial Stability
Panellists in the 21st round of the Reserve Bank of India’s Systemic Risk Survey identified the following major risk factors for financial stability:
- new wave of the pandemic and new mutations of the coronavirus;
- faltering of the uneven recovery, global and domestic;
- rise in and persistence of elevated inflation driven by global energy crisis and supply-side disruptions including reasons of emission control; and
- disorderly monetary policy exits.
Financial Stability and Development Council (FSDC)
- Financial Stability and Development Council (FSDC)is an apex-level body constituted by the government of India.
- The idea to create such a super regulatory body was first mooted by the Raghuram Rajan Committee in 2008.
- Chairperson: The Union Finance Minister of India.
Responsibilities :
- Financial Stability
- Financial Sector Development
- Inter-Regulatory Coordination
- Financial Literacy
- Financial Inclusion
- Macro prudential supervision of the economy including the functioning of large financial conglomerates
Coordinating India’s international interface with financial sector bodies like the Financial Action Task Force (FATF), Financial Stability Board (FSB) and any such body as may be decided by the Finance Minister from time to time.