India has over the last decade developed a nascent funding model for the aspiring 100 million households who are India’s economic backbone. This demographic is both the most needy and the most vulnerable. And equally true is the fact that enabling their access to capital and funding can be one of the most catalytic economic drivers for India.
Developing a model of financing that is formal, regulated and sustainable for these households has therefore been a social and economic imperative.
On the one hand, it starkly brings out the difference between regulated and unregulated lending.
On March 27, the Reserve Bank of India responded swiftly to the pandemic and its expected economic pain. It mandated lenders to give a 3-month moratorium to all primary borrowers. Banks, NBFC, HFCs worked at breakneck speed to ensure this was done. This was, in a way, a big win for formal finance as any borrower in India got this relief equally and simultaneously.
Contrast this with a person who would have availed of finance from informal channels/ local moneylenders. RBI’s mandated relief would not extend to them. This is underlined by anecdotes that are coming up during the pandemic such as PDS cards being taken as “security” by some loan sharks.
The swift and much needed relief given by RBI to primary borrowers has however put strain on financial intermediaries. It appeared that most of their own lenders were unable to give them a similar moratorium because this was not envisaged in regulatory guidelines. These NBFCs/MFIs need to negotiate the difficult middle ground where they have given relief to their primary borrowers but are unable to get moratorium from their own lenders.
The regulator tried to balance this by making funding available to banks under the Targeted Long Term Repo Operations (TLTRO). Banks could borrow money from RBI and then on lend it to NBFCs/MFIs etc through CPs/bonds. In order to ensure that money did not flow only to large, top rated corporates, RBI subsequently announced a mandatory distribution of TLTRO 2.0 with 50% of that to be deployed in investment grade papers of smaller NBFCs and MFIs.
However, there has been a tempered reception for TLTRO 2.0. The central bank received bids of Rs. 12,850 crores, only about 50% of the amount of liquidity it had offered. It appears that the RBI had not factored in the lack of credit appetite of banks for investing in anything beyond the top of the rating curve.
The fact of the matter is that MFIs/HFCs who cater to the most vulnerable part of the Indian population are at the extreme end of a very heterogenous NBFC scale. Largely under Rs.2000 crores of assets, they are also rated in various grades of BBB. Most importantly, they have rarely been able to access CP/bond markets even in pre-Covid times and are primarily dependent on loans from banks and larger NBFCs. Their access to TLTRO 2.0 will still depend on banks who may choose to use the funds to lend to the larger/ better rated NBFCs within various buckets of TLTRO 2.0.
We now have a strange situation. Lenders who have (as mandated) given relief to their primary borrowers but are not able to get the same relief for themselves.The TLTRO mechanism may continue to serve the needs of those at the top of these various NBFC classifications. The rest may be trapped in a cash flow mismatch as the financial liquidity chain is broken by banks’ lack of credit appetite for their paper. This could threaten first their liquidity, and then their solvency. It would also be a big operational distraction as they scramble to unlock CP/bond funding in the middle of these uncertain time.
Worse, it could be a big setback, for the future of socially impactful lending. The nascent start of an industry that could allow half a billion of India’s population access to capital would come into question.
This chain of financial liquidity needs to be quickly repaired and strengthened. As we come out of lockdown, a 100 million households will need access to funds and livelihoods. We need to be ready for that. A clarification by the regulator to banks and NBFCs allowing them to extend a parallel moratorium on their onward lending to small NBFCs/MFIs would go a long way in easing the cash flow stress and operational burden of these entities.