D Subbarao, the former RBI Governor, feels that setting up a bad bank is not just necessary but unavoidable in the present circumstances when NPAs are likely to balloon and much of the resolution will have to take place outside the IBC framework.
The standard advantage of a bad bank is that the entity taking a decision on the sale price is different from the entity accepting that price. Conflict of interest and corruption is avoided, and importantly, is seen to be avoided.
The former RBI Governor noted that with the economy contracting by at least five percent this fiscal year, non-performing assets (NPAs) will balloon.
Also, according to RBI's Financial Stability Report, gross NPAs of banks may rise to 12.5 percent by March 2021 under the baseline scenario, from 8.5 percent in March 2020.
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