The Reserve Bank of India’s (RBI) recent move to tighten the risk weights on unsecured personal loans and credit cards by banks and non-bank finance companies (NBFCs) is credit positive because lenders will need to allocate higher capitals, which will improve their loss-absorbing buffers, Moody’s Investors Service said in a report on Monday.
Last week, the RBI increased the risk weights on the exposure of banks towards consumer credit, credit card receivables and NBFCs by 25 per cent up to 150 per cent.
“The tightening of underwriting norms through higher risk-weighted assets is credit positive because lenders will need to allocate higher capitals for such loans improving their loss-absorbing buffers and may dampen their growth appetite,” Moody’s Investors Services said.
Risk weight refers to the capital banks keep aside as provisioning to cover any loan defaults.
As per State Bank of India’s (SBI) Group Chief Economic Adviser Soumya Kanti Ghosh, the banking industry will require Rs 84,000 crore of excess capital or five per cent increase on Rs 15.2 lakh crore capital requirement following the rise in risk weights on these unsecured personal loans. This means a 55-60 basis point increase in CRAR (Capital to risk weighted assets ratio) due to these regulatory measures.
The report said that the unsecured segment has been growing very rapidly in the past few years exposing financial institutions to a potential spike in credit costs in case of sudden economic or interest rate shocks.
In the past two years, personal loans grew around 24 per cent and credit card loans grew 28 per cent on average compared with overall banking sector’s credit growth of around 15 per cent, Moody’s Investors Service said.
According to the report, banks would be able to absorb higher risk weights on their capital because the overall banking sector’s exposure to unsecured retail credit is small at around 10 per cent of loans as of September 2023 and the sector’s overall capitalisation is at historically high levels with a common equity tier 1 ratio of 13.9 per cent as of March 2023.
However, the impact of the new underwriting rules could vary among individual lenders depending on their exposure to unsecured loans, it said.