NBFC sector is being stifled with regulation and there is immediate need for moving it away from the Banking Regulator. The mind-set and objectives of Reserve Bank of India (RBI) which are applicable to banks are also been mandated in regulating NBFCs which is indirectly hurting the NBFC sector main goal “which is to supplement the role of the banking sector in meeting the increasing financial needs of the corporate sector, delivering credit to the unorganized sector and to small local borrowers”.
RBI hurting the liquidity need of various industries by not differentiating between Bank’s & NBFC’s
Operations of Banks and NBFCs differ from each other, so must be assessed differently taking into consideration the type of issue which differ for financial regulation. RBI is restricting NBFCs sector growth by applying banking thinking for them and is thereby hampering access to credit for the firms who obtain financing from NBFCs.
RBI is not taking into consideration and differentiating the reasons and factors associated with market failures of banks and NBFCs. In case of banks, the market failure is consumer protection of unsophisticated depositors which is governed by banking regulation whereas in case of NBFC, RBI is not considering that there are no unsophisticated depositors in case of NBFC’s.
One of the major issues faces by NBFC is lack of trust even though registration of NBFC is mandatory from RBI. Main reason behind that mindset has been because some institutions somehow obtains false registration certificate and get involved in scams and made money out of people’s trust.
General public mindset towards Banking & NBFC sector
People tend to believe more in banks as they find it more trustworthy mainly due to following factors like when anyone deposit money in a bank, he can go and withdraw the principal at any time he wants. Even for fixed deposits, the principal is protected in the case of premature withdrawal.
However, the scenarios are different from the NBFC point of view whose deposits mainly come from term loan or a bond/debenture. Say anyone buy a 3 years Reliance Industry debenture in the debt market, in that case he cannot withdraw it at par before the debenture matures. i.e. If you go with the debenture to the offices of Reliance Industries before the 3 years are up, Reliance Industries has no legal obligation to repay the loan amount in the debenture. He can only get your principal and interest payments as per the terms of the debenture and not a minute before that. Hence there are no unsophisticated depositors who may need their money immediately on demand, there is no consumer protection angle from deposits received by NBFC. But RBI still continues to regulate NBFCs like banks, requiring them to keep liquid funds (in government securities) and also recognise problematic loans and keep capital against it. This defeats the very purpose why NBFCs are prohibited from taking deposits callable at par from household. RBI is not taking into consideration that banks can easily raise financial resources at low cost through deposits, savings and current accounts. But being NBFC cannot or find it difficult to raise capital through deposits as it usually lacks the availability of low-cost funds.
Negative publicity related to NBFC
The recent scams in NBFC have snatched away the trust of common people from NBFC. In past scam like major NBFC investment fraud involving a whopping Rs 980 crore and arrested three directors of a company and an assistant sub-inspector of police for allegedly cheating about 2 lakh people across the country. Further it is hard to digest that in past there were around 22,000 firms which were not registered as NBFCs which have committed financial frauds.
This has resulted into fund raising problem as it has gradually become more difficult and challenging, specially, for the small and medium sized NBFCs. NBFCs generally have no access to low cost funds. Riddled with scams and weighed down by toxic loans, most large banks are shying from lending directly to customers. Instead, they are lending to non-banking finance companies (NBFCs), which, in turn, are servicing corporate and retail customers.
Conclusion
The framework for governing banks and NBFCs is so different that the same regulator cannot do it. India has a few large and stable businesses which banks can lend to. However, the major economic growth will come from new businesses which are small and risky. The small entrepreneur who start a new line of business will face liquidity shocks (will/or prone to miss a few of the regular installments). As long as such entrepreneurs are not being funded with household safe savings, there is nothing wrong in that. For banks, the market failure is consumer protection of unsophisticated depositors. This is the reason why we have detailed banking regulation. If there are no unsophisticated depositors in a lending institution, regulating them like banks is wrong, and harms the economy.
Ashish Sharma Senior Consultant