Moody's Investors Service has maintained its negative outlook on India's banking system, reflecting the negative effects of currency volatility, persistent inflation, and slowing economic growth.
Asset quality will continue to deteriorate, particularly for public sector banks. At the same time, profitability will likely remain weak, limiting internal capital generation.
"The operating environment for India's banking system continues to exert negative pressure on ratings of many public sector banks. While structural issues related to the infrastructure sector are not new, the recent downturn in economic growth has exacerbated these problems and increased their negative effects on asset quality," says Gene Fang, a Moody's Vice President and Senior Analyst.
Fang was speaking on a just-released Moody's report titled, "India Banking System Outlook." The report details Moody's expectation of how bank creditworthiness will evolve in this system over the next 12-18 months.
While asset quality for private sector banks has largely remained stable, the combination of nonperforming loans and restructured loans has grown as a percentage of gross loans at public sector banks. Reserves for loan losses remain weak, and further provisions to sustain coverage will reduce profitability.
At the same time, systemic support remains strong, as evidenced by recently announced allocations of government funds to bolster capital at public sector banks. Moody's expects government support for this sector to be sustained, regardless of the 2014 election outcome.
Moody's report also highlights that Indian banks continue to have sound liquidity metrics, underpinned by
a sizable domestic deposit base and minimal reliance on wholesale funding.
"As India is currently coping with adjustments related to the economic cycle, how growth rebounds next year will have an impact on the credit profiles of Indian banks. In addition, continuation of reforms in infrastructure after next year's election could contribute positively to the health of banks' balance sheets," says Fang.
Moody's rates fifteen banks in India -- eleven public sector banks and four private sector banks -- and incorporates government support in the ratings of all these banks.