The Reserve Bank of India’s (RBI) decision to increase risk weights on the unsecured consumer credit and credit card dues is driven primarily by concerns over a sharp rise in such loans offered by non-banking financial companies (NBFCs), and onward lending by them through fintechs, bankers said.
The RBI’s worry is mostly in the sub-Rs 50,000 loan segment of unsecured personal loans, where NBFCs have high exposure. NBFCs have been catering to this low-ticket segment of borrowers through their tie-ups with fintech companies. Any stress at NBFCs will have an impact on the banking sector, lenders said.
RBI Governor Shaktikanta Das had said Wednesday that the increasing interconnectedness between banks and non-banks merits close attention.
“Largely, it is the NBFCs (unsecured personal loan) book which has grown very abnormally. NBFCs exposure to unsecured personal loans have grown up very fast and that is why the entire industry figure has also gone up. This has worried the regulator,” said a banker who didn’t wish to be named.
The RBI did not respond to an email seeking comment.
On Thursday, Finance Minister Nirmala Sitharaman asked NBFCs and small finance banks to remain cautious while lending as suggested by the RBI.
“Enthusiasm is good but sometimes it becomes a bit too far for people to digest. So as a measure of caution the RBI has also alerted small finance banks, NBFCs to be careful that they don’t go too far too soon and face any downside risks later,” she said at an event.
Banks, meanwhile, maintain that there are no concerns over their own unsecured loan portfolios as they offer loans to their customers with salary accounts and can better track cash flow records.
The Centre for Advanced Financial Research and Learning (CAFRAL), set up by the RBI, had recently raised concerns over the rise in the bank financing for NBFCs.
Following the market correction prompted by the Infrastructure Leasing & Financial Services Ltd (IL&FS) default and a brief pause due to the pandemic, bank financing for NBFCs has begun to rise again, it said. “This raises concerns about systemic contagion and underscores the need for tighter preventive measures to mitigate potential systemic fallout,” CAFRAL, a not-for-profit organisation, said in its India Finance Report earlier this month.
Unsecured personal loans do not require collateral. These loans are riskier — if borrowers default, lenders won’t have collateral to recover the debt.
On November 16, the RBI increased the risk weights on the exposure of banks towards consumer credit, credit card receivables and NBFCs. A higher risk weight means lenders need to set aside more funds as a safety net for consumer loans, which could make such credit more expensive. It restricts banks’ lending capacity as they have to set aside more funds for solvency.
The risk weight on NBFC exposure to unsecured retail loans went up to 125 per cent from 100 per cent earlier. Additionally, the RBI increased the risk weights on bank loans to NBFCs by 25 percentage points to 125 per cent in all cases where the extant risk weight rating of an NBFC is below 100 per cent.
The central bank increased the risk weights on credit card receivables by 25 percentage points to 150 per cent. Credit card outstanding of banks had shot up by 29.9 per cent on a year-on-year basis to Rs 2.17 lakh crore as of September 2023.
NBFCs’ personal loans rose by 31.3 per cent in March 2023, the RBI’s Financial Stability Report released in June this year said. NBFCs’ personal loan growth stood at around 14 per cent as at September 2022 and around three per cent as at March 2022. The personal loan portfolio of NBFCs grew the most during the last four-year period (a compound annual growth rate of more than 30 per cent) resulting in an increase of its share in the total loan portfolio to 31.2 per cent in March 2023.
According to a Fitch Ratings report, growth in banks’ unsecured credit card loans and personal loans in the first half of the financial year ending March 2024 stood at 29.9 per cent and 25.5 per cent y-o-y, respectively, against a total system loan growth of 20 per cent. NBFC growth has shown a similar trend. Higher unsecured personal loan exposure of NBFCs means these lenders are more prone to risk in case of a default.
Bankers said any stress in the NBFC sector could have a contagion effect on the banking sector, as was seen in the case of failure of IL&FS.
“The RBI is uncomfortable with higher borrowing of NBFCs from banks. Any trouble that NBFCs will have on their asset quality through consumer credit, will also mean that they will go into trouble and so, banks can have an impact as they have lent to NBFCs,” said a private sector lender.
Of the total borrowings of 62.3 per cent as at March 2023, NBFCs borrowed 25.2 per cent from banks. This also includes NBFCs commercial papers and debentures subscribed by banks. NBFCs borrowing from banks stood around 23.6 as at March 2022.
Speaking at a banking event on Wednesday, RBI governor said that NBFCs are large net borrowers of funds from the financial system, with their exposure from the banks being the highest. Banks are also one of the key subscribers to the debentures and commercial papers issued by NBFCs. NBFCs also maintain borrowing relationships with multiple banks simultaneously.
“Needless to state that such concentrated linkages may create a contagion risk. Though the banks are well capitalised, they must constantly evaluate their exposure to NBFCs and the exposure of individual NBFCs to multiple banks,” Das said.
Finance Industry Development Council (FIDC), a representative body of NBFCs, on Thursday requested the RBI to re-evaluate the sharp increase in risk weights assigned to bank loans to NBFCs.
“While we understand the purpose of the Bank (RBI) to regulate credit flow to the consumer sector, this measure inadvertently, also has the potential to sharply reduce flow of credit to MSMEs, self-employed and other sectors which rely upon credit from NBFCs,” FIDC said in a letter to the RBI.
The cost of funds to these critical sectors is also likely to increase sharply, especially at a time when the interest rates are already high after the RBI hiked the Repo rates.
MSME and self-employed segments are emerging from the Covid impact and are looking ahead to increase capital expenditure through modernization and expansion of productive capacity, FIDC said.
Fitch Rating in the report said it estimates that the effect of higher risk weights on banks’ loans to NBFCs may be significant, averaging about 34 basis points (bps), while that of higher credit-card risk weights should be lower, at around 5 basis points. One basis point is one-hundredth of a percentage point.