How easy money from banks led NBFCs into crisis

Banks lend by taking deposits directly from the public.

Non-banking financial companies (NBFCs) have been in trouble since 2018. In the budget, the finance minister said fundamentally sound NBFCs should continue getting funds from banks for which the centre will provide a partial credit guarantee. Mint analyses what ails NBFCs.

How bad is the situation at NBFCs?

Take a look at the accompanying chart. Gross non-performing assets (NPAs) of NBFCs as of 31 March 2019 stood at 6.60%. This is the worst in a period of six years. This means a greater proportion of loans given by NBFCs is not being repaid than in the past. As of 31 March 2018, gross NPAs of non-bank lenders stood at 5.3%. This figure has jumped by 130 basis points during the course of just a year. One basis point is one hundredth of a percentage point. While the situation is worrying, it is nowhere near as bad as that with public sector banks: their gross NPAs stood at 12.6% as of 31 March 2019.

What has changed for NBFCs?

Like banks, NBFCs give out loans. Banks lend by taking deposits directly from the public. That’s not the case with most NBFCs. Only 88 of the 9,659 NBFCs take deposits. In order to give out loans, most NBFCs borrow from banks and sell commercial paper. The commercial paper they sell are basically short-term financial securities, which debt mutual funds buy. Cutting a long story short, NBFCs depend on public funds, which account for around 70% of their liabilities. In the last two years, the share of bank borrowing as a proportion of total borrowings of NBFCs has gone up. This is where the problem lies.

How has banks’ share in NBFCs’ borrowing risen?

As of 31 March 2017, bank lending made up 21.2% of NBFC borrowings. This figure jumped to 23.6% as of 31 March 2018 and finally to 29.2% as of 31 March 2019.

What happened because of this?

NBFCs got access to easy money from banks. This, as is often the case, led to a small fall in lending standards and that has ultimately showed up in higher gross NPAs. The trouble at NBFCs such as Infrastructure Leasing and Financial Services Ltd, and Dewan Housing Finance Corp. Ltd forced banks and mutual funds away from NBFCs. Between March and May, outstanding bank loans to NBFCs fell 3% to 6.2 trillion. Given that NBFCs fund a lot of low-end consumption expenditure, there has been an impact there as well.

What is the way out for NBFCs?

Like the Reserve Bank of India did in the case of banks in mid-2015, it needs to carry out an asset quality review of NBFCs as well, at least some of the larger ones. Also, there is a great need to share agglomerated NBFC data in the public domain than is currently the case. In recent years, most financial crises around the world have started in the shadow banking sectors, which is where NBFCs belong.

[“source=livemint”]