The agency has affirmed long-term ratings of nine banks, including State Bank of India, Bank of Baroda and its New Zealand arm, Punjab National Bank, Canara Bank, IDBI Bank, ICICI Bank and Axis Bank, at 'BBB-'

"We have revised our sector outlook to negative from stable implying that there are more downside risks for Indian banks' viability ratings (VRs) unless the risks of deteriorating asset quality and weak earnings are counterbalanced by sizeable capital infusions," the agency
said in a report today.

Banking sector non-performing loans (NPL) rose sharply in 2015-16 to over 13 per cent, or over Rs 8 trillion, as of March as a result of stricter NPL recognition standards.

According to the recently released Financial Stability Report of the Reserve Bank, gross non-performing loans of banks jumped to 7.6 per cent in March 2016, from 5.1 per cent in September 2015.

Fitch said asset quality could deteriorate further over the next 12-18 months, given the banks' exposure to stressed sectors, such as infrastructure and iron and steel and the difficult resolution process for stressed assets in the near-term.

"Earnings of banks are also likely to be weak due to muted loan growth and high credit costs," the agency said. Banks' capital positions have historically been weak but the situation has worsened for most public sector banks due to delayed recognition of problem assets and high loan loss provisions, and will remain weak in the near term unless the government makes significant capital investment in  the banks, the report said.

The government is committed to inject Rs 70,000 crore in public-sector banks by fiscal 2018-19. Out of this, Rs 25,000 crore will be infused this fiscal and Rs 18,000 crore shortly.

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