Non-performing Assets and Profitability: Case of Indian Banking Sector

Abstract

At present, the Indian banking sector is facing an arduous time in the form of an increasing trend in non-performing assets (NPAs), which is testing its strength and resilience. The present study aims to explore the NPA–profitability relationship for the Indian banking sector, so as to determine the gravity of the impact that NPAs have on bank profitability. Further, other bank-specific, industry-specific and macroeconomic factors impacting banking profits have been taken under consideration. A balanced panel data set comprising 37 scheduled commercial banks of India over a time frame of 14 years (2005–2018) has been used for the purpose of required analysis. Conclusions have been drawn employing fixed effect and random effect panel regression models. Due to the presence of heteroskedasticity, results for robust standard error have been reported. A highly negative correlation exists between NPA and the two profitability measures return on assets (ROA) and return on equity (ROE). The results of this study have established NPA as the major detractor of banking industry’s profits because NPA carries the most negative regression coefficient which is highly significant. It implies that declining credit quality hampers banks’ performance and leads to their collapse.