Original article Determining Risk Factors that Diminish Asset Quality of Indian Commercial Banks Onkar Shivraj Swami 1 B. Nethaji 1 Jyoti Prakash Sharma 1 Abstract Controlling higher level of non-performing loans (NPLs) has become one of the key objectives of the Reserve Bank of India (RBI), as it may impact banking and macroeconomic stability adversely. In this respect, the present study tries to determine risk factors that diminish asset quality of Indian commercial banks in and around the asset quality review period. Pooled and panel logit model has been employed to examine the determinants of NPLs. We find that banks with lower level of capital, reduced profitability, less diversified portfolio, poor operating and managerial efficiency are at greater risk of having diminished asset quality, whereas the size of the bank is positively linked with the higher level of NPAs. In general, empirical analysis proposes that to identify the bank whose asset quality is likely to deteriorate well in advance, the Regulatory and Supervisory Department of the Central Bank may consider lower level of capital, deteriorating profitability and poor operational efficiency as a leading indicator. Keywords Asset quality, non-performing loans, bank-specific determinants, logit model, Indian banks Introduction Sound asset quality is considered as one of the indicators of financially stable bank. Non-performing loan (NPL)/non-performing asset (NPA) represents the degree of bank’s assets eroded. Deterioration in asset quality of the banks indicates faults in the banking system and, if not addressed prudently, may lead to the financial crisis. Problems with bank’s asset quality are usually assumed to lower profitability. Because NPAs provide diminished interest revenue and are at risk for failure to return loan principal, they reduce its earnings ability. Worsening asset quality of the bank may decline economic activity and efficiency and hamper the social welfare of the nation by impeding growth (Ghosh, 2015). Indeed, Global Business Review 1–13 © 2019 IMI Reprints and permissions: in.sagepub.com/journals-permissions-india DOI: 10.1177/0972150919861470 journals.sagepub.com/home/gbr Disclaimer: The views expressed in this study are of the authors and not of the institution to which they belong. 1 Department of Banking Regulation, Reserve Bank of India, Mumbai, India. Corresponding author: Onkar Shivraj Swami, Banking Policy Division, Department of Banking Regulation, Central Offce, Reserve Bank of India, Mumbai, Maharashtra 400001, India. E-mail: oswami@rbi.org.in