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Crisis in the current financial service space in India

There has been a lot of chitter chatter happening everyday about the path the Indian economy is dwelling into and the facts and figures aren’t very hunky-dory. The economy is in a gloomy state and the current situation deserves attention. The growth rate witnessed for the second quarter of the fiscal year 2020 has been 4.5%, which has been the lowest in 6 years. The Monetary Policy Committee has revised its GDP forecast for FY 20 to 5%, which is at its lowest level since the financial crisis of 2008. After the soaring of vegetable prices, the government has increased its retail inflation projection upwards to 4.7-5.1%. With a number of things going wrong, one of the sectors most adversely affected is the financial sector and ironically this is the sector that is expected to be the back bone and bring the country out of a slowdown. Let’s see the country’s stand in that area.

The air in the economy about the banking sector in the past few months has been marred with huge amount of NPAs contributed by the public sector banks and cases highlighting messy corporate governance issues. Even though the RBI has been taking initiatives like setting up the Insolvency and Bankruptcy code, setting Prompt Corrective Action, in order to clean up the mess, the effectiveness of these new frameworks still lie in a grey area. According to ICRA, out of the 2542 cases admitted under the IBC, more than 50% cases are still ongoing in courts. Even the cases that have been resolved, only 15% of the cases have yielded a resolution plan, and the rest have ended up liquidating. Additionally, the recent scams like PMC crisis, Karvy scam, highlights that there is still a fundamentally deeper problem which will take a lot of time to go away from the sector. If we observe most of the recent scams, the regulator comes into the picture only when the scam breaks out and the damage has been done. The important point to note is that, why isn’t there an identification of the problem in the annual inspection conducted by RBI and why isn’t there a damage control in the first place? This issue in the financial sector will not be solved until and unless there is a better fraud detection framework in place and until and unless bank’s top board comprises of ethical professionals. 

To add to the already aggravated problems, due to a slump in demand and wide spread negative sentiments, the bank loans given out is at its lowest pace in 2 years. Even after a 135-bps cut in the repo rate from the Reserve Bank of India, the lending has not been boosted. This slowdown currently being faced is the one caused by a lack of demand. The investment demand is more or less interest inelastic as of now, hence any marginal cut in the lending rates by the bank is not encouraging the demand for investments. The last time when the lending rate was so low post the effects of demonetization and GST, NBFCs quickly backed the banks and became a major lending vehicle for the country. NBFCs have been a great saviour for the credit space as their borrowers range right from the smallest ticket sizes to big budget entrepreneurs. However, after the IL&FS turmoil and the subsequent spill over effect on the other NBFCs, the shadow banking is facing a significant liquidity crunch as well. This is even more dampening as NBFCs have been a major lending vehicle for sectors like real estate, construction and automobiles, all of which have been severely impacted due to the crunch and crisis. The government had announced its plan in budget 2019 of giving a 6 months credit guarantee worth 1 lakh crore to boost the lending by banks to the NBFC sector. However, there hasn’t been any improvements and disbursals in that area as well and banks are reluctant to extend credit to this space.

 In fact, there is an even more threatening situation emerging. NBFCs in a search for growth have switched to lending to smaller ticket sizes and riskier loans. According to a CIBIL report, the loans given out to borrowers with a credit score of “below 700” have gone up drastically. The average ticket size of NBFC loans have dipped from Rs. 1,10,000 to Rs. 41,000. This increase in subprime lending to boost the asset base is more engraving for the Indian economy, especially when the financial sector is already loaded with a bucket of issues. What is more concerning is whether there will be a point when the Indian customer loses confidence in the non-banking lending space of India, which contributes approximately one-fourth of the credit flow?

The regulator needs to step up and remove the vulnerabilities faced by the financial sector. Even though currently the economy is witnessing a slowdown, and not a recession, the slowing numbers are definitely a cause for concern and need to be rectified. For that, the country needs to be backed by a stronger and sounder financial system fully trusted by the people of India.

Written By – Anjali Agarwal (Editor, TJEF)

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