Managing Financial Turmoil

The subprime crisis of the US has caused immense turmoil amongst international bankers in general and investment bankers in particular. They face counter-party risks with regard to structured obligations and are neck deep in trouble with liquidity risk, even though the central bankers have been injecting massive funds. Liquidity crunch has resulted in credit crunch very significantly. The enormity of the crisis is yet to be fully evaluated. Many investment bankers have been recapitalized by Sovereign Wealth Funds (SWFs). The subprime crisis, in a way, has its origin in the low interest rate regime of the US, following the deluge of funds, thanks to the phenomenon called global imbalances. SWFs have been generated essentially to partially mitigate the negative effects of this phenomenon. The irony here is that such SWFs are coming forward to recapitalize ailing investment bankers!

Perhaps international bankers could be more diligent with securitization instruments. May be, the home mortgage business in the US will become more prudent. Banks, hopefully, will understand the risk dimension first before embracing it.

The Indian banking sector has not been affected by this turbulence, essentially because our domestic bankers are not world class investment bankers and the vigilance of the RBI is really effective. While the banking sector, by and large is spared of this crisis, the finance sector is not. Stock market indices have fallen heavily due to withdrawal of FII funds, which are anxious not to book losses. To add to the problem, agflation and high energy prices have shaken the stability of the financial system. Double digit inflation and rising interest rates will naturally result in slow growth and rise in NPAs.

One disturbing question is the status of the housing loan portfolio of the banking system. With EMIs rising by 30% during the last 20 months and disposable income falling due to higher prices, the middle income segment will find servicing home loans a difficult task. The fall in home prices further worsens their case. There could be rising bad loans and rising number of public auctions of homes. Banks need to gear up to this unpleasant task in good time if they are to avoid an Indian version of the us subprime crisis.

- Katuri Nageswara Rao