A company registered under the Companies Act engaged in the business of:<\/strong><\/p>\n\n\n\n But does not include any institution whose principal business is:<\/strong><\/p>\n\n\n\n A non-banking institution which is a company and has principal business<\/strong> of receiving deposits under any scheme or arrangement in one lump sum or in instalments by way of contributions or in any other manner is also a non-banking financial company<\/a><\/strong> (Residuary non-banking company).<\/p>\n\n\n\n In terms of Section 45-IA of the RBI Act, 1934, a Non-banking Financial company cannot commence or carry on the business of a non-banking financial institution:<\/p>\n\n\n\n However, to obviate dual regulation, certain categories of NBFCs<\/em><\/a><\/strong> which are regulated by other regulators are exempted from the requirement of registration with RBI.<\/p>\n\n\n\n Liquidity Coverage ratio refers<\/a><\/strong> to the proportion of the High-Quality Liquidity Assets (HIGH-QUALITY LIQUID ASSET) an NBFC has to maintain in order to meet the net cash outflows over a period of 30 calendar days, in case the markets face a liquidity crisis.<\/p>\n\n\n\n Numerically,<\/strong><\/p>\n\n\n\n It is given by<\/strong> <\/p>\n\t\t\t\t\t\t Stock of HIGH QUALITY LIQUID ASSET<\/span> Important\nFinancial Institutions (SIFI),” are required to maintain a 100% LCR.<\/p>\n\n\n\n By the above\ndefinition, we may infer that Liquidity Coverage Ratio has the following two\ncomponents:<\/p>\n\n\n\n HIGH QUALITY LIQUID ASSETS\n<\/strong><\/p>\n\t\t\t\t\t\t\t It refers to the Assets which are unencumbered and can be converted into cash easily and immediately at little or no loss to cover the net cash outflows during a liquidity stress period of 30 days.\n<\/p>\n\t\t\t\t\t\t <\/div>\n\t\t\t\t\t\t TOTAL NET CASH OUTFLOWS\n\n<\/strong><\/p>\n\t\t\t\t\t\t\t It is refers to the difference between total expected cash outflows and total expected cash inflows during a liquidity stress period of 30 days.\n\n<\/p>\n\t\t\t\t\t\t <\/div>\n\n\n\n Basel III Framework\non Liquidity Standard classifies High quality liquid assets as:<\/p>\n\n\n\n Level 1 asset may be in any proportion in the Total stock of\nHigh Quality Liquid Assets. However, Level 2 assets are to be restricted to\nmaximum 40% of the overall stock requirements after taking into consideration\nthe applicable haircuts.<\/p>\n\n\n\n These assets, for the purpose of Liquidity Requirements may\nbe taken at their market<\/a> value without any applying any haircut (Haircut refers\nto the reduction in market value taking into consideration the associated risk\nfactor).<\/p>\n\n\n\n A minimum haircut of 15%<\/strong>\nin the market value should be applied to these assets.<\/p>\n\n\n\n That are given a 20% risk weight<\/strong> under the Basel II Standardised Approach for credit\nrisk and provided<\/strong> that they are not\nissued by a bank\/financial institution\/NBFC or any of its affiliated entities. <\/p>\n\n\n\n A minimum haircut of 50%<\/strong> in the market value should be applied to these assets. Level 2B assets should be maximum 15% <\/strong>of the total stock of High-Quality Liquid Assets.<\/p>\n\n\n\n The NBFCs primarily function by borrowing from Financial\nInstitutions such as banks and Mutual funds and providing loans to borrowers in\nthe market. It may be shown as:<\/p>\n\n\n\n The problem arises in the model of NBFCs<\/em><\/a><\/strong> that India follows. In our system , the NBFCs borrow short term loans from institutional investors usually with a maturity of 6 months- 1year and issue commercial papers to such lenders promising a fixed rate of interest on the money lent by the investors.<\/p>\n\n\n\n However, when it comes to lending, they disburse long term\nloans to borrowers usually with a maturity of 5 years. As a consequence, the\nNBFCs resort to renewing their commercial papers for repaying the matured\nloans.<\/p>\n\n\n\n This NBFC model would perfectly function in a healthy\neconomy. However, the problems may set in when the economy is going through a\ncrisis. When the economy is going through such a phase, there might be defaults\non part of the borrowers who borrowed from the NBFCs. Which may result in shortage of funds with the\nNBFCs and thus, making them unable to repay their own debt.<\/p>\n\n\n\n This may be explained as:<\/em><\/strong><\/p>\n\n\n\n The NBFC liquidity crisis stemmed out of the Infrastructure\nLeasing and Financial Services (IL&FS) episode. <\/p>\n\n\n\n The IL&FS is an NBFC\nwith State Bank Of India and Life Insurance Corporation Of India as some of its\nshareholders. It is huge in size, with about more than 200 subsidiaries on\nboard.<\/p>\n\n\n\n The IL&FS group had\ntaken huge amounts of loans from financial institutions and when it came to the\nrepayment of the same, many of its subsidiaries defaulted on the payment of the\nsaid loan.<\/p>\n\n\n\n As a consequence, many\nFinancial institutions developed a fear to lend money to the NBFCs apprehending\ndefault on repayment on the loans in a manner similar to the IL&FS group,\nresorting to a curb on the granting loan to the sector and so, the NBFCs exhausted\ntheir major source of funds resulting a steep decline in their liquidity\nposition, pushing the industry into a liquidity crisis.<\/p>\n\n\n\n The financial institutions form the backbone of our economic\nstructure. To save such Institutions during economic downfall becomes crucial\nto prevent further economic degradation. In such cases, the institutions become\nvulnerable and have a high potential of running into liquidity crunch, or even\nlosses.<\/p>\n\n\n\n The IL&FS crisis urged the RBI to take certain steps to\navoid such a situation in the future as a defence to potential onset of\nfinancial crisis.<\/p>\n\n\n\n The RBI, by this measure strives to ensure that in case of\nany stress period, the NBFCs have an adequate buffer stock of High Quality\nLiquid Assets which may be realised into cash quickly even in times of crisis\nfor a minimum period of 30 days. This would ensure survival of the company at\nleast for 30 days, so that meanwhile the company may find a solution to the\nproblem. <\/p>\n\n\n\n Furthermore, following points may be noted in respect of Need for Liquidity Coverage Requirements:<\/strong><\/p>\n\n\n\n Firstly, in order to understand the applicability of\nLiquidity Coverage requirement, we have to bifurcate the NBFCs into 2 sections,\nwhich may be illustrated as follows:<\/p>\n\n\n\n RBI vide notification dated November 04, 2019 introduced Liquidity\ncoverage requirements for the above categorised NBFCs.<\/p>\n\n\n\n NON\nDEPOSIT TAKING NBFCs HAVING ASSET SIZE MORE THAN Rs. 10000 CRORE AND DEPOSIT\nTAKING NBFCs IRRESPECTIVE OF ASSET SIZE:<\/strong><\/p>\n\n\n\n The minimum buffer of HIGH QUALITY LIQUID ASSETs to be\nmaintained by the company is 100% of the net cash outflows for a minimum period\nof 30 calendar days.<\/p>\n\n\n\n The requirement of 100% HIGH QUALITY LIQUID ASSET stock is\nto roll out in phases, starting from December 1 2020 and progressively\nincreasing to required level of 100% by December 1, 2024.<\/p>\n\n\n\n A company is required to maintain at least 50% of Net cash\noutflows from December 2020 onwards and increasing in the following manner set\nout in the table set out below<\/p>\n\n\n\n NON\nDEPOSIT TAKING NBFCs HAVING ASSET SIZE MORE THAN Rs. 5000 CRORE BUT LESS THAN 10000\nCRORE:<\/strong><\/p>\n\n\n\n RBI mandates such companies to maintain the minimum buffer\ncommencing from required by such companies December 1 2020 at a level of 30% of\nnet cash outflows.<\/p>\n\n\n\n It is presented in the following table:<\/strong><\/p>\n\n\n\n Section 45 IB provides for maintenance of liquid assets in a deposit-taking non-banking financial companies, long before the introduction of liquidity coverage ratio by the RBI.<\/p>\n\n\n\n It prescribes that a deposit taking NBFC shall maintain\nminimum level of liquid assets of 15% of public deposits outstanding as on the\nlast working day of the second preceding quarter.<\/p>\n\n\n\n Of the 15%, NBFCs are required to invest:<\/strong><\/p>\n\n\n\n As we have seen, The RBI has made the norms for liquidity\nstricter in order to meet out the potential liquidity stress scenario in a bid\nto keep up with the changing economic situation and its possible outcomes. <\/p>\n\n\n\n As we have seen, the RBI started off by making liquidity requirements\nmandatory for the Deposit taking NBFCs only by incorporating Section 45 IB in\nthe RBI Act. By introducing Liquidity Coverage Requirements, the RBI intends to\ninclude a wider category of NBFCs to maintain a stock of liquid assets. <\/p>\n\n\n\n Moreover, in the new\nLiquidity Coverage Requirements, the RBI has prescribed for maintaining HIGH QUALITY LIQUID ASSETS<\/strong>, a stepped\nup version of the LIQUID ASSETS<\/strong> that\nwere to be maintained under section 45\nIB<\/strong> of the Act. The former provides more liquidity over the latter. <\/p>\n\n\n\n Keeping in mind the patterns above The RBI may make its norms more stringent in upcoming phases of the economy. Strict compliance by the NBFCs, in true letter and spirit, of the Liquidity Coverage ratio, is essential for saving from a possible economic degradation in tough times. <\/p>\n\n\n\nWhat Is The Liquidity Coverage Ratio?<\/h2>\n\n\n\n
Total Net cashflows over the next 30 days<\/span><\/p>\n\t\t\t\t\t\t \n\t\t\t\t\t <\/div>\n\n\n\nHigh-Quality Liquid Assets – An Analysis<\/h2>\n\n\n\n
![\"High-Quality](\"https:\/\/enterslice.com\/learning\/wp-content\/uploads\/2020\/04\/high-quality-liquid-assets.png\")
<\/figure><\/div>\n\n\n\nLevel\n1 Asset: <\/strong><\/h3>\n\n\n\n
Level\n2A Assets:<\/strong><\/h3>\n\n\n\n
Level\n2B Assets<\/strong><\/h3>\n\n\n\n
How Do The Nbfcs Function And What Led To The Liquidity Crisis?<\/h2>\n\n\n\n
![\"loans](\"https:\/\/enterslice.com\/learning\/wp-content\/uploads\/2020\/04\/loans-to-borrowers-in-the-market.png\")
<\/figure><\/div>\n\n\n\n![\"shortage](\"https:\/\/enterslice.com\/learning\/wp-content\/uploads\/2020\/04\/shortage-of-funds-with-the-NBFCs.png\")
<\/figure><\/div>\n\n\n\nRbi’s\nUrge To Introduce Liquidity Coverage Ratio And The Need For Lcr<\/strong><\/h4>\n\n\n\n
What\nIs The Liquidity Coverage Requirement Prescribed By The Rbi To Be Followed By\nNbfcs?<\/strong><\/h3>\n\n\n\n
![\"Liquidity](\"https:\/\/enterslice.com\/learning\/wp-content\/uploads\/2020\/04\/Liquidity-Coverage-Requirement.png\")
<\/figure><\/div>\n\n\n\n\n DATES<\/strong>\n <\/td> \n CATEGORY\n 1 AND CATEGORY 2.2<\/strong>\n <\/td> \n CATEGORY\n 2.1<\/strong>\n <\/td><\/tr> \n December 1, 2020\n <\/td> \n 50%\n <\/td> \n 30%\n <\/td><\/tr> \n December 1, 2021\n <\/td> \n 60%\n <\/td> \n 50%\n <\/td><\/tr> \n December 1, 2022\n <\/td> \n 70%\n <\/td> \n 60%\n <\/td><\/tr> \n December 1, 2023\n <\/td> \n 85%\n <\/td> \n 85%\n <\/td><\/tr> \n December 1, 2024\n <\/td> \n 100%\n <\/td> \n 100%\n <\/td><\/tr><\/tbody><\/table><\/figure>\n\n\n\n Section 45 IB Of The RBI Act, 1934<\/h2>\n\n\n\n
Conclusion<\/h2>\n\n\n\n