Beach rental equipments

How to break transmission bottlenecks for small non-banks

Even after two successive waves of Covid, most government and central bank actions to enable cheaper and more abundant credit do not appear to have been fully passed on to the people who need it most, and where they would most have it. impact.

Indeed, the bulk of these loans are made by small lenders who have themselves been hit hard by the pandemic and are unable to access and pass on the benefits of the low interest rate regime and the cash freed up by the pandemic. the RBI. These small lenders – non-bank financial corporations (NBFCs), housing finance companies (HFCs), and microfinance institutions (MFIs) – focus on the difficult job of assessing credit risk for low-cost self-employed loans. as well as to MSMEs. , often for informal titles. With balance sheets below 500 crore, they make up 80% of the universe of non-bank lenders and hold a market share of 4-20% in sectors such as mortgage loans, gold, MFIs and MSMEs.

A July 2021 Omidyar Network India-Crisil study, “The Transmission Conundrum” (bit.ly/3C3E0ds), suggests that many small NBFCs have not benefited much from the softer rate regime and high liquidity. Instead, their average cost of borrowing increased by 120 to 150 basis points (bps), as the bulk of their borrowing comes from banks and large NBFCs, which have tightened credit standards and increased their spreads. credit. Large lenders with strong parentage and / or good credit ratings were in a better position to benefit from systemic easing. Large MFIs, for example, have benefited from a 100bp cost reduction over the past three years.

This “conundrum of transmission” is not new. Rate cuts in the context of difficult economic conditions have often been offset by the increase in credit spreads practiced by financial intermediaries with direct and wider access to central bank money.

There are also other barriers to accessing specific relief measures. A lack of a record of profitability has hampered access to the special liquidity regime for younger lenders, as has the interest rate cap for the Emergency Credit Lines Guarantee Scheme (ECLGS). The moratoriums imposed by the RBI have also exacerbated the cash flow mismatch for small lenders. For example, only 40% of MFI lenders have been offered a moratorium on repayments.

Small non-bank businesses therefore face a trio of problems: a growing mismatch in cash flow, a crunch in credit, and a higher cost of borrowing. What can unclog the transmission bottleneck?

More targeted funding to smaller non-bank entities, along with the right incentives and downside protection, could increase their liquidity, especially since most lenders tend to be pro-cyclical. For example, loans to smaller non-bank entities may be classified as Priority Sector Lending (PSL) during a crisis or have lower provisioning.

Recent measures that classify loans from small financing banks (SFBs) to small MFIs in the PSL category, and a credit guarantee to banks for lending to MFIs for lending to small MFI borrowers indicate the intention to ” tailor policies to specific segments of borrowers in need of support. It would be interesting to extend and extend these policies to other categories and customer segments.

Second, credit pools can be created during economic recoveries to absorb shocks during crises. Like the deposit insurance pool or the capital conservation buffer, they could provide partial insurance against default of small non-bank entities.

Third, policy decisions, such as the length of time loans are granted and the funding requirements, must take into account the nuances of each asset class and their experience with the cost of credit. For example, the 10% provisioning for restructured loans might be different across asset classes depending on the risk of the asset (lower for home loans and guaranteed to reflect their lower credit risk).

Fourth, the establishment of centralized certification to assess the soundness of systems and processes in small non-bank institutions would encourage investors and lenders to take higher exposures and reduce risk premiums.

Fifth, a common platform, with appropriate consent mechanisms, where transaction records of individual customers as well as MSMEs (such as utilities and digital payments) can be captured, should be considered. This would give lenders insight into the credit risk profiles of customers.

And, finally, a more flexible interest rate cap policy for access to ECGLS. These limits can be set at different levels depending on the size of the lenders’ portfolio, their cost of funds and the actual operating costs of the business, as well as likely credit losses and expected return on assets. This will prevent small lenders at the bottom of the pyramid from being charged.

The solution to this conundrum may not be simple. But the benefits of building and strengthening an inclusive credit system can be huge.