Rating agency Moody’s today said the Reserve Bank of India’s (RBI) stricter norms for non-performing loans and for loans to commercial real estate would hurt banks’ profits. “The hike in RBI’s provisioning requirements is likely to have a significant impact on profits over the short term,” Moody’s said in a statement.

Retaining key policy rates in its review last month, RBI had raised the amount of funds banks need to set aside as provision for possible losses in the two categories. The central bank increased provisioning requirement to 1 per cent from 0.4 per cent for loans to the commercial real estate sector, resulting rise in provision by 150 per cent.

It also asked banks to set aside a minimum of 70 per cent of their non-performing loans (the norm has to be met by September 2010) as cushion to absorb potential losses here. “Higher provisioning will increase rated Indian banks’ buffer to absorb loan losses … But the higher credit costs are likely to dent bottom lines,” Moody’s said. The higher provisioning requirements suggests that the Indian banking regulator “is clearly worried, as are we, about a potential increase in bad loans”, the rating agency said.

The fear feeds particularly from the significant build-up of restructured loans and due to the large increase in credit to the commercial real estate sector over the last year. Moody’s said the unchanged key rates and a higher statutory liquidity ratio (SLR) would have no short-term credit implications as majority banks have SLR holdings well over 27 per cent on high liquidity. SLR, the ratio of total deposits that banks are required to keep in government securities, cash, and gold, was raised by 1 percentage point to 25 per cent. Profits could be hurt significantly for banks currently having relatively low NPL provision cover ratios, as there is less than a year to comply with the 70 per cent requirement. However, the rating agency said, “We view these regulatory moves by RBI positively, as they reinforce its aim to maintain financial stability in light of the distress experienced in other markets.”

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