Financial Stability Report (FSR)- Jan 2022

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Recently, the Reserve Bank of India (RBI) released its latest Financial Stability Report (FSR).

What is the significance of Financial Stability Report (FSR)?

FSR is published twice each year by the RBI that presents an assessment of the health of the financial system.
The RBI also conducts a Systemic Risk Survey (SRS), wherein it asks experts and market participants to assess the financial system on five different types of risks
- Global
- Financial
- Macroeconomic
- Institutional
- General

FSR details the current status of different financial institutions such as all the different types of banks and non-banking lending institutions.
It also maps the state of credit growth and the rate at which borrowers are defaulting on paying back loans.
Reading the FSR tells us how robust or vulnerable our financial system — especially our banking system — is to the changes in the economy.
As a corollary, it also tells us whether and to what extent will our banks and other lending institutions (such as Non-Banking Finance Companies and Housing Finances Companies) be able to support future growth.

What are the important takeaways from the recently released FSR?

Since this is a biannual publication, the default comparison is to the last FSR.

Since the July 2021 issue of the FSR, the rejuvenation of the global recovery in the first half of 2021 has started losing momentum, impacted by
- Resurgence of infections in several parts of the world
- Supply disruptions and bottlenecks
- Persistent inflationary pressures
The Goods Trade Barometer of the WTO shows that the World merchandise trade volumes, which had risen 22.4% year-on-year in Q2 of 2021, have been slowing in the second half of the year.
The Baltic Dry Index, which is a measure of shipping charges for dry bulk commodities, crossed its highest mark in more than a decade in October 2021, but it recorded a sudden drop after that.
The Global Economic Surprise Index (GESI), which compares incoming data with economists’ forecasts to capture the surprise element, went into negative territory during Q3 of 2021.
The slowdown in activity is occurring even in countries with relatively high vaccination rates
Disconnect between real economy and India’s equity markets
Lifted by the bull run in equity markets across the globe, the Indian equity market surged and strong investor interest has driven up price-earnings (P/E) ratios substantially.
Bank credit growth is improving, but not fast enough

The banking stability indicator (BSI), which indicates the changes in underlying conditions and risk factors of India’s commercial banks, showed improvement in soundness, asset quality, liquidity and profitability parameters.
There is an improvement in the credit growth rate as it forms a “U-shaped” recovery but still there are some matters of concern.
- The growth rate is still far off the ideal level.
- Retail credit (less than Rs 5 crore) is growing at a decent clip but the wholesale credit (Rs 5 crore and above) growth continues to struggle.
- Most of the wholesale credit is being picked up by public sector undertakings while the private sector is holding back from raising fresh funding.
Non Performing Assets (NPAs) may rise by September 2022

The latest FSR pegs the NPA of India’s Scheduled Commercial Banks (SCBs) at 6.9% at September 2021.

Stress tests indicate that the Gross NPA ratio of all SCBs may increase to 8.1% by September 2022 under the baseline scenario and further to 9.5% under severe stress.
Within the bank groups, public sector banks’ GNPA ratio of 8.8% in September 2021 may deteriorate to 10.5% by September 2022 under the baseline scenario.
Banking prospects improve

Almost 64% of respondents expect the economy to recover fully in the next 1-2 years while 22% believe it may take up to 3 years.
The latest FSR’s analysis suggests that India’s banking and financial system has largely improved since the July 2021 report.
But with global growth faltering, monetary tightening in the developed countries as well as the rise of omicron, the risks are evenly balanced.