RBI Ease Norms for Banks to Increase Credit Flow to NBFCs

Soniya Khanna

25 Jun, 2023

The Reserve Bank of India has allowed banks to increase credit flow to NBFCs (Non-Banking Financial Companies). For NBFCs, the single borrower exposure limit has been increased by the RBI from 10% to 15% of the bank’s capital.

Why RBI opened a banking tap to increase credit flow to NBFCs?

RBI is taking the initiative to infuse liquidity into the system. To add liquidity, RBI^[1] is also undertaking open market operations at regular intervals. This step will mitigate the short-term problems and will ease the liquidity crunch.

Measures taken by RBI to increase the credit flow to NBFCs

RBI issued measures on 19^th October 2018 to increase the liquidity flows to NBFCs.

To meet liquidity coverage ratio requirements, RBI allowed banks to use government securities as level 1 high-quality liquid asset (HQLA) equivalent to the incremental outstanding credit to NBFCs and housing finance companies (HFCs) which will be limited to 0.5 % of the bank’s net demand and time liabilities (NDTL) or its total deposits.

This move will help NBFCs (Non-banking Financial Companies) and HFCs (Housing Finance Companies) by providing liquidity.

If the banks provide additional credit flow to the NBFCs, then it will be an incentive for the banks to use their pool of government securities in order to meet their LCR (Liquidity Coverage Ratio).

Read our article:Why Do NBFCs Have To Maintain Liquidity Coverage Ratio And High-Quality Liquid Assets?

As per the RBI notification dated 19^th October

Measures taken by the RBI

According to the notification, an additional window will be available up to December 31, 2018.

In order to meet short-term obligations, the liquidity coverage ratio has to be beheld by financial institutions. The liquidity coverage ratio refers to highly liquid assets.

For NBFCs which do not involve in infrastructure finance, the single borrower exposure limit has been increased from 10 % to 15 % of capital funds by the RBI up to 31^st December 2018.

By easing liquidity norms, RBI permitted banks to increase credit flow to NBFCs. Besides this, the ceiling limit has also been increased to a single NBFC till 31^st December 2018.

NBFCs are expected to facilitate additional lending of around Rs. 50,000 crores as per the measure of RBI. Banks have been parking excess funds in government securities when lending is low.

If we talk about the current scenario, then banks hold more than 29% of their NDTL in government securities as SLR whereas, it has been mandated by the RBI to hold at least 19.5 %.

Read our article:All About NBFC Prudential Norms & NBFC Compliances

Lending Opportunity

For meeting the liquidity coverage ratio (LCR), there can be higher lending to NBFCs by the banks to equivalent excess government bonds owned by the banks. Liquid assets are required to meet short-term liabilities.

Impact of the Measures

In terms of liquidity, bankers are already quite comfortable with their LCR (Liquidity Coverage Ratio); therefore, they would not like to use these incentives.

As per the senior bankers, rather than regulatory incentives, lending to NBFCs is more about risk perception. A 5% increase in the limit of the capital fund will push banks to increase their lending to NBFCs as, currently, no bank has exposure of 10% of their capital fund to a single NBFC. These measures are temporary or short-term in nature; therefore, it will be the decision of banks to give more exposure to the NBFC sector.

Conclusion

To ensure market stability, it was a great move by the regulator. However, it will only benefit selected NBFCs. LCR (Leverage Coverage Ratio) is capped at 0.5%. At the time of the asset-liability mismatch of NBFCs, RBI was very crucial while promising sufficient liquidity in the financial markets.

Rather than focusing on profitability through short-term funds, they raised more equity and long-term funds, which created instability. We hope that these measures will likely improve the liquidity situation in the market.