One of the papers from the Reserve Bank of India (RBI) has stated that introducing a bad bank, as envisioned in Budget 2021, will assist in “shaping the operations” of the present asset reconstruction companies (ARCs).

The paper also noted ineffectiveness in the functioning of ARCs a significant portion of assets bought by such firms has not been resolved for a long time.

Union Finance Minister Nirmala Sitharaman had mentioned in the budget speech that the bad bank will be created to hold the sour assets of the state-run lenders. It will then professionally resolve these assets.

However, the RBI has cautioned against a circuitous movement of funds between the banks and the ARCs.

“About 42 per cent of the outstanding SRs (security receipts) as on March 2020 were more than five years of age and would have to be redeemed over the next four years to avoid write-offs,” the central bank’s paper read.

It adds, “Going forward, the introduction of a new asset reconstruction company for addressing the NPAs of public sector banks may also shape the operations of the existing ARCs.”

However, the RBI maintained that there is a definite scope for a well-capitalized and designed institution in the Indian ARC industry. It stressed that the ARC should work towards a specific goal of resolving the non-performing assets (NPAs).

The paper also cited global experiences in laying down the necessary features of the new ARC announced by the government.

Moreover, a strong political will should support the bad bank in order to identify the problematic loans, as per the RBI. It should also have a protective legal infrastructure for bankruptcy and private property laws, Economic Times reports.

The RBI aims to strengthen the ARC industry and thereby encourage the sales of NPAs by banks that will further amplify the ARCs’ involvement in asset resolution through these changes on the regulatory front.