The Economic Survey for 2015-16 presented in February was a tad different. Economic Surveys contain crucial numbers and details, but are generally long and boring. The Survey this year was long, but was not boring. Arvind Panagariya gave us memorable quotes like Indian moving “From socialism with restricted entry to “marketism” without exit”, the Chief Economic Advisor gave us plenty of food for thought.

The economic survey was significant because for the first time it went to great lengths to talk about the problem of non-performing assets or bad loans in the banking segment. According to the survey, “One of the most critical short-term challenges confronting the Indian economy is the twin balance sheet (TBS) problem—the impaired financial positions of the Public Sector Banks (PSBs) and some large corporate houses— what we have hitherto characterized as the ‘Balance Sheet Syndrome with Indian characteristics’. By now, it is clear that the TBS problem is the major impediment to private investment, and thereby to a full-fledged economic recovery.”

This is surprising since the economic survey for 2014-15 showed no signs of distress in the banking sector. However, the problem with the banking sector is not one that was created overnight, but has been created after years of mismanagement. Banks favoured larger corporate over smaller companies and disbursed large amounts of money based on earnings potential and credit ratings that these firms enjoyed. That the credit ratings for most of these corporates never mirrored the actual position is another story, but years of funding the unfeasible is finally beginning to show.

“Stressed assets (nonperforming loans plus restructured assets) have risen ever since 2010, impinging on capital positions, even as the strictures of Basel III loom ever closer on the horizon. Banks have responded by limiting the flow of credit to the real economy so as to conserve capital, while investors have responded by pushing down bank valuations, especially over the past year. The shares of many banks now trade well below their book value,” said the Economic Survey.

Stressed assets of banks are at 11.3%, one of the highest that has ever been. The government has unveiled a capital infusion road map with Rs. 25,000 crore being allocated for FY16 and FY17 and Rs. 100,000 crore each in FY18 and FY19. However, many consider this grossly inadequate with the actual estimates for bank recapitalization standing at Rs 2.5 lakh crore. The problem now is that with a paucity of funds, the banks would not be able to lend, with more corporate turning bad and smaller companies finding it even more difficult to borrow. This is turn leads to a further deterioration in asset quality for banks and the vicious cycle continues. It is well known that banks that have NPAs mostly focus on recovery of loans and their penchant to lend is severely curtailed.

So what does these NPA mean for you and me? For small business and anyone with a ‘thin file’ getting credit from a bank is not easy. It sometimes takes as much as 6-7 months for an SME to get any response to an application for credit from a bank. Banks consider the cost of lending to smaller firms, higher than lending to a corporate customer. It also does not help that SMEs often have riskier credit ratings, less glossy financial statements and peer group comparisons are often difficult. With rising NPAs, if getting credit from banks was difficult, it is worse now.

Relatively non-risky loans have become non-performing and that has led banks to tighten their purse. Banks at the moment do not want to take on the additional risk of lending to smaller companies and this can lead to Personal Loans for the SME sector seeing its slowest disbursals.

The smaller firms have been dealt a second blow as the corporate they do business with are defaulting on their payments. Banks have tightened their purse because of high NPAs and at the same time fragile balance sheet of these corporate mean smaller vendors are not being paid.

It is for this reason that India needs alternative sources of finance. The world has never recovered from the 2009 downturn, but alternative sources of finance have seen wide adoption throughout the world. Indian economy is the beacon of hope for the world as it continues to grow at over 7 %, but finance continues to be an important cog in that wheel.

It is, however, not the case that money is not available. There is still plenty of money in the system that can be mobilized to get around this shortfall. Banks will take time to emerge from their problems, but in the meantime, it is important to strengthen alternative sources of finance. This is particularly important as sources of finance like Peer-to-Peer and crowdfunding and even the NBFCs can play a pivotal role in lending to smaller borrowers. This will ensure that the wheels of the economy keep running.