RBI’s Proposed LCR Norms to Further Limit Banks’ Lending to NBFCs

The Reserve Bank of India's (RBI) draft guidelines on the liquidity coverage ratio (LCR) under Basel-III norms, if implemented as proposed, could make it harder for low-rated non-banking financial companies (NBFCs) to secure affordable credit from banks, sources have indicated.

Scheduled to take effect from April next year, the draft guidelines are anticipated to shift bank lending preferences towards NBFCs with AAA or AA ratings.

“For smaller NBFCs, conditions will become tougher. With existing stringent lending norms, bank credit to NBFCs has already reduced. The new LCR norms will worsen the situation. We have provided our feedback to the banking regulator,” stated an official from a smaller NBFC.

The new LCR norms will require banks to assign an additional 5% run-off factor for retail deposits with internet and mobile banking features. This means banks will need to hold more high-quality liquid assets, leaving them with fewer funds to lend. Consequently, NBFCs fear a reduction in available funds, leading to higher borrowing costs and further margin compression.

Bank credit to NBFCs had already declined to 8.5% as of June 2024 due to the RBI’s tighter norms. The year-on-year growth in bank credit to NBFCs fell sharply to 8.5% in June 2024 from 36% in October 2022.

Earlier this year, the regulator asked banks to moderate their lending to NBFCs by increasing the risk weightage on these loans by 25 basis points to 125%. As a result, banks have been decreasing their lending to NBFCs.

To meet the festive season demand amidst reduced bank credit, NBFCs have turned to the debt market, raising ₹73,820 crore since August 1, according to Prime database data. AAA and AA-rated NBFCs have been particularly active in the bond market, intensifying competition for smaller and lower-rated NBFCs.

Faced with stricter rules, NBFCs have also been seeking funds from overseas markets. A 50 basis point rate cut by the US Federal Reserve has made external commercial borrowing cheaper than domestic funding, providing some relief.

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