By Devidutta Tripathy and Tanvi Mehta
MUMBAI/BENGALURU (Reuters) - Investment bank Goldman Sachs (NYSE:GS) downgraded its forecasts for India's economy on Tuesday in the wake of a more than $2 billion (1.43 billion pounds) fraud at Punjab National Bank (NS:PNBK), warning it could spark tighter regulation of the banking sector that would constrain credit growth.
In a note to clients, Goldman Sachs lowered its real gross domestic product (GDP) forecast on India for the year to March 2019 to 7.6 percent from 8 percent earlier.
Last month's disclosure of the fraud by PNB, India's second-largest state-run lender has sent bank shares tumbling.
The case, along with a flurry of smaller loan frauds since reported by other banks, has sparked new concerns that credit growth is unlikely to pick up quickly in an economy where state-run lenders that account for two-thirds of banking assets are already saddled with a mountain of bad debt.
The Goldman warning is a blow for the government, which had hoped that a $32 billion, two-year, bank recapitalisation programme it unveiled last year would help Indian banks to begin to restart lending, spurring elusive job growth in the economy.
State-run lenders account for the bulk of the close to $150 billion of soured debt in India. They have already seen the amounts they must set aside to cover bad debts grow due to new central bank rules, and are staring at further loan losses as they pursue a host of defaulters through the bankruptcy court.
Goldman said it feared a regulatory crackdown after the huge PNB fraud, and the mountain of soured debt, could increase Indian banks' provisioning burden and so slow credit growth.
"Markets and investors are questioning whether the problem is more systemic," Goldman analysts wrote in the note, referring to the PNB fraud, adding that markets feared the fraud would likely offset some of the positive effects of the bank recapitalisation and hit overall credit, investment and GDP growth.
India regained its status as the world's fastest growing major economy in the October-December quarter, as it grew 7.2 percent, its fastest in five quarters.
Goldman, which forecasts the Indian economy to grow 6.6 percent in the current fiscal year which ends in March, said it retained its 2019/20 growth forecast at 8.3 percent.
Goldman said its analysts believe PNB was likely to take the hit of the entire $2 billion, wiping off more than a quarter of its net worth.
It also said the average haircuts on impaired loans Indian banks would need to take could be 60-65 percent over the next two years, higher than the 50 percent it had assumed earlier, meaning overall provisions would rise.
The still unravelling PNB fraud, the biggest in India's banking history, has prompted the government to ask banks to scan all their bad loans above 500 million rupees ($7.7 million) for any sign of wrongdoing.
Other small cases of fraud have come to light in the past month, while investigations into ongoing cases have picked up pace.
Shares in another state-run lender, Canara Bank (NS:CNBK), tumbled as much as 5.4 percent on Tuesday morning after the police filed charges against its former chief and others over allegations that the officials helped a company defraud the bank of about $10.5 million taken in loans over four years ago.