Shining the light on mis-selling in Indian banking
By Bindu Ananth & Kshama Fernandes
Non-banking finance companies (NBFCs) represent an important linkage between the formal banking sector and informal segments of the real economy in India (wage labourers, smallholder farmers, unorganised retail, and domestic workers) through the channelling of credit from the former to the latter.
They have a significant presence in the microfinance, small business finance and commercial vehicles finance segments. Of the 11,682 NBFCs registered with the Reserve Bank of India as of end-March 2016, 209 were systemically important non-deposit taking NBFCs which are subject to more stringent prudential norms and provisioning requirements. Loans & advances by these entities alone accounted for around Rs 10.7 lakh crore. Through the data lens of collection efficiencies and disbursement volumes of over 100 NBFCs, we take stock of the impact of demonetisation on them. This also provides insights on the ultimate impact on the informal economy in India.
From November 9 onwards, NBFCs were not permitted to accept repayments in Rs 500 and Rs 1,000 denomination notes. Given the lack of access to bank accounts, most NBFCs accept repayments in cash from their customers. The average collection efficiency of microfinance NBFCs was 99.02% for the 12 month period preceding Nov 16. As of end November, collection efficiencies dropped significantly for these NBFCs and ranged from 60% to 90%.
Vehicle finance NBFCs reported a collection efficiency ranging from 60% to 70% with a higher cheque bounce rate and reduced overdue collections. Vehicles engaged in the movement of goods/ passengers which are “discretionary” witnessed an increase in idle time of 15-20 days a month from the normal levels of 8-10 days. Nondiscretionary goods, including agri produce and dairy, witnessed a lower impact.
Small business lending NBFCs reported a collection efficiency ranging from 65% to 85% with entities lending to small manufacturers and traders being at the low end of the range. Informal salaried customers have been as affected as self-employed customers with collection efficiencies of around 70%. This is true across urban and rural locations. In the affordable housing finance segment, collections continue to hold strong. These are largely selfoccupied homes. LTVs in this segment are much lower and reflect significant borrower equity in the asset. The norm for fixed obligation to income ratios in the informal segment is significantly lower and may provide a reasonable cushion to absorb short-term cashflow shocks.
Many microfinance NBFCs had put disbursements on hold for all of November 2016 and are now restarting disbursements gradually. Some restarted disbursements partly from their own collections. In the vehicle finance segment, disbursements are at 50-60% of normal levels on account of the slowdown in demand. Fresh disbursements in the small business lending segment have almost stopped with fresh logins dropping to 25% of the normal monthly volumes. Overall, disbursements have been affected also due to shortage of currency in the banking channel and a weekly cap on cash withdrawal. Going forward, we also expect an impact on disbursements in used vehicle finance due to the anticipated crunch on margins for fresh borrowing by the end-customers.
In pockets of UP and Maharashtra, demonetisation has fuelled some political risk factors in the form of demand for loan waivers by local politicians. This needs to be tracked closely and prevented from escalating by local offices of the RBI and the district administration. Going forward, NBFCs will need to re-engineer operations to significantly move away from cash collections. The task of opening bank accounts with full functionality for rural customers is far from complete. The availability of payment mechanisms such as the Unified Payment Interface (UPI) on feature phones will greatly help this category of customers from the advances in this area. There is also a need for a sharp increase in cashin/cash-out points, particularly in remote rural India to facilitate ease of transactions as the progression to cashless/ less-cash economies will take time.
The disruption will have a marginal impact on profitability of NBFCs due to foregone disbursement. We want to share our concerns on the negative liquidity and income impact on customers of these NBFCs which may not show up in collection data of lenders. Salaried workers in the informal sector have been hurt through delayed payment of wages and self-employed workers have seen significantly lower business volumes. Disruptions in credit impact consumption for low-income households in terms of reduced expenditure on essential items such as food and health. There could be a possible loss of trust in formal financial institutions. We need to work hard to restore an environment that will ensure predictability and credibility of these institutions among this large segment of India’s working poor.
This article first appeared in Economic Times.