Two major obstacle to India’s economic growth: Twin Balance Sheet and Lower Private Investments
India's economy slowed to down to its lowest level in three years at 5.7%. Various reforming initiatives such demonetisation and GST were held responsible for slower growth.
Many economists and politicians proposes that this slower growth is temporary and long term benefit of GST and demonetisation are immense for the e growth and proper functioning of tax system and distribution of wealth in society. Thus it is expected that once these revolutionary changes are adopted well among firms and consumers the economic growth can shoot up once again to new heights. Although the unfavourable effects of demonetisation and GST are temporary and can benefit the economy in the long run, there are other factors that are hampering current economic growth and is a threat to future growth too such as widening export deficit, rising debt, overvalued stock market, rising oil prices etc.
Among all such factors India's economy is struggling with a twin balance sheet problem. A phenomenon where banks balance sheet is affected due to ‘non performing assets’ (loans and advances that have ceased to generate income for banks in the form of interest or principal amount or both) and at the same time, balance sheet of corporates (which borrowed from banks) is affected due to mounted debts and/or lower earnings to repay the money borrowed. This phenomenon leads to slower growth as the defaulted companies are reluctant to invest in new or existing projects due to unsettled previous debts and lower earnings to repay new loans. At the same time, banks are unable to issue new loans even to more promising projects as their monies are blocked with debt mounted corporates, making private investments more hindered along with increased operating costs for banks. This often results in huge layoffs by banks and corporates which in turn creates unemployment in economy causing decline in consumption and demand which ultimately affects the suppliers and brings down the whole economy growth. However, Centre usually don't let this happen. How? By injecting money in the form of bailouts in the banking system so that they can issue new loans and recover the income that they have lost in their previous bets, however, problem occurs when the new loans become non performing too.
Various reports have indicated rising NPAs as a threat to the growth of the economy. Former RBI Governor, Mr. Raghuram Rajan cited the problem of twin balance sheet as one of the major threat to economic growth. India must fix the balance sheets of its banks and debt-ridden companies, work to revive the stalled infrastructure projects, especially in the power sector, and focus on exports, if it is serious about getting its economy back on track, Raghuram Rajan said in his interview with Hindustan Times. Infra and power sector are highly affected by twin balance sheet problem. The story goes back to early 21st century when Interest rates and consumption and corporate earnings were all favourable. Such favourable conditions made banks to lend more to long term projects mainly from power and infra sector. However, after the 2008 financial crash, the entire landscape of global economy changed. Markets share went down, demand and consumption was low due to unemployment and tremendous losses in financial investments, etc. This lead to lower earnings and lower return on Investments for high end infra and power projects companies, making them unable to meet their obligations thus turning their loans into Bad loans or NPAs. Banks since then have restructured those loans have several times in an attempt to recover and alter them in their financial statements in order to retain public confidence and attract investments. Banks have lent almost Rs 4tn — amounting to 67 per cent of total debt in the power sector — to private sector companies with interest coverage of less than one. The list of these cash-strapped borrowers includes Reliance Infra, JP Power, Rattan India, Adani Power, Tata Power and JSW Energy, according to research from Mr Gupta. The banks could theoretically take over troubled assets from their indebted power-producing customers, but there are few buyers due to costly and outdated method of production and advent of newer technologies such as solar electricity.
There is a need for private investments as government is already struggling to overcome short term negative effects of demonetisation and GST as it has already utilized 92% of its fiscal deficit target. The private sector, and not the government, is primarily responsible for creating growth in an economy, said Amitabh Kant, chief executive officer of government think-tank NITI Aayog at the Bloomberg India Economic Forum 2017. The government’s job is to facilitate conditions that make private investments come in, he added.
There is not enough private sector investments in either infrastructure or manufacturing because a lot of investors have already “burnt their hands” in projects and hence lost confidence, said Shanti Ekambaram, president of consumer banking at Kotak Mahindra Bank, in a panel discussion at the forum. Various key politicians and executives highlighted the need for private Investments. According to R Shankar Raman, chief financial officer of engineering and infrastructure giant Larsen & Toubro Ltd.- The private sector is under pressure to generate returns on investments they've already made. Thus, twin Balance sheet problem impede the economic growth by blocking huge amount of cash, affecting banks ability to lend to new borrowers and hindering overall investments due to non availability of funds.
So how can a twin balance sheet problem can be solved? First of all, banks would need to lend to a proven viable projects. It is often said that public sector banks decision to lend is politically influenced. Bank must evaluate feasibility of a project and the credit standing of the borrower. If done correctly, there will be far less NPAs in the system. Currently, aggregate bad loans stand at about Rs. 8 lakhs crore. Out of which only about Rs. 85,000 crore comes from private sector. This could be because of huge market share that public sector banks enjoy- about 70%. Second, twin balance sheet problem could be solved by forming 'bad banks’-an organisation that would buy bad loans from banks clearing it's balance sheet and then recover money from defaulters. This would relieve the bank's balance sheet and help to focus on their business. The government’s chief economic adviser, Arvind Subramanian, has suggested a bad bank run by the private sector. Third, a robust recovery system could boost money flow into banks. One of such initiative is Insolvency and Bankruptcy Code (IBC) which seeks to consolidate the existing framework by creating a single law for insolvency and bankruptcy. IBC too has some unfavourable conditions that might restrict banks to move further in the process of recovery under the code. It also proposed that private sectors should be uplifted in an economy as these sectors are more efficient in reducing costs and increasing profits while innovating and bringing in desired capitals.
In India, majority of banking shares is held by government. Public-sector banks control more than 70 per cent of the banking system assets. Overall, for public sector banks, net NPAs as a percentage of the bank's net worth was 18% in 2012. Since then, it has risen to 76%. For seven banks, it has been more than 100%. The private banks are much better off than their public sector peers. Although government and RBI have taken various steps to curb NPAs such as DRTs, SARFAESI Act, 2002 and the latest Insolvency and Bankruptcy Code (IBC). However, according to the Financial Stability Report by RBI, the risks to the banking industry’s stability have worsened. It warns that the banking system’s gross bad loan ratio will rise to 10.2% of the total loan book in March 2018 from 9.6% in March 2017.
Thus, we can conclude that it might take time and long efforts to solve twin balance sheet issue and promote more private capital investments. With various laws and regulations enacted to curb bad loans and governments focus on technology and making India one of the best place to do business, we can expect a favourable long term growth in an economy. 
