Goldman Says India Bank Rescue to Raise Loans & Rates

Corrected
  • Says plan to inject $32 billion capital will boost GDP growth
  • Goldman, State Bank of India predict pick up in loans

Goldman Sachs Group Inc. just got more bullish -- and hawkish -- on India.

The government’s plan to inject a record 2.1 trillion rupees ($32 billion) of fresh capital into its struggling lenders over the next two years will spur loans and growth in gross domestic product, boosting stocks and the rupee, according to economists at Goldman. The move will also probably push up short-term rates, the investment bank says.

"A 1.05 trillion rupees infusion into state-run banks over the next 12 months would lower the drag on bank credit growth by up to 10 percentage points and boost GDP growth by up to 5 percentage points," Goldman economists led by Jonathan Sequeira wrote in a note. "The measures are likely bearish for short-term rates, as they make the RBI more likely to hike rates sooner than market expectations."

Goldman reiterated its forecast that the Reserve Bank of India will raise its key rate three times by the end of 2018, "an outcome that is not fully priced in by the market," where swaps indicate little change. The RBI is due to review policy Dec. 5-6, and a split within its rate-setting panel is already widening as members disagree sharply over the trajectory for inflation.

Read: Rift Within India’s Central Bank Panel Widens, Minutes Show

Money Multiplier

Macquarie Group estimates that state-run lenders account for more than 70 percent of India’s banking system and they hold almost 90 percent of all bad loans in the country, according to data from Credit Suisse Group AG.

Even after providing for the stressed assets, banks will have around 1 trillion rupees available for lending, said Soumya Kanti Ghosh, chief economic adviser with State Bank of India, the country’s largest lender. That could unleash at least 3.3 trillion rupees which could rise to a 10 trillion rupee additional infusion in the economy, he said.

The recapitalization plan "addresses an important supply-side issue and improves the outlook for private capex recovery," said Upasana Chachra, India economist at Macquarie. She retained her 7.2 percent growth estimate for the year through March 2019 but said that may rise if investments -- some 30 percent of GDP -- improve quicker than expected.

Goldman expects the RBI to start tightening in the second half of 2018 as inflation will move into the upper part of the central bank’s 2 percent to 6 percent target range, Andrew Tilton, Goldman’s chief Asia-Pacific economist, said in an email. Goldman sees the rupee strengthening to 64.5 a dollar by the end of March. The currency was trading at 64.7950 as of 11:45 a.m. in Mumbai on Tuesday.

The risk is that if rates aren’t cut substantially, high real rates will dampen demand for loans and the infusion will go only toward capital requirements without leaving additional growth capital with banks, according to Bloomberg economist Abhishek Gupta. Then there are others who say that demand isn’t a problem; it’s just that banks are unwilling to lend to certain companies such as small and medium-sized businesses.

These businesses employ more than 90 percent of India’s workforce. However, just 4 percent have access to bank loans while the rest depend on informal money lenders or family funding, said Praveen Khandelwal, a top official at the Confederation of All India Traders, an umbrella organization representing India’s 60 million small and medium-sized traders. CAIT says sales over the recent festival season slumped 40 percent from a year earlier, leading to the worst Diwali in a decade.

"Given the slowdown, and the problems traders face with getting loans from banks, this announcement was needed," Khandelwal said, referring to the bank recap plan. "But more needs to be done."

(Corrects to clarify that call on monetary tightening was made before recap plan in story published Oct. 31.)
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