Lenders lose sleep over new RBI restrictions

Mumbai: Bankers are worried about what is likely to be a tough time in the next fiscal year as the Reserve Bank of India (Reserve Bank of India) is expected to impose strict rules and tighten regulations provisioning requirements for project finance, introducing a new expected credit loss (ECL) framework and imposing a higher liquidity coverage ratio (LCR) for deposits to protect against sudden capital outflows through digital channels.

The central bank is expected to introduce these rules later this year and bankers are concerned they will hurt profitability in the medium term.

“Banks have given their views on all three proposals; we can only hope that the Reserve Bank of India listens to them. The project finance norms, in particular, are quite tough. If implemented in their current form, they could hurt financing for the sector,” said an executive at a public sector bank. “At a time when India is looking to grow faster and there is no crisis on the horizon, these norms could do more harm than good.” The central bank released draft guidelines on project finance in April.

In the draft guidelines, the RBI has asked all regulated entities to set aside 5% of their infrastructure loan amounts to cover possible losses when a project is in the construction phase.

This buffer can be reduced to 2.5% when the project becomes operational, and to 1% after it generates adequate cash flow to pay its existing obligations and its long-term debt decreases by at least 20% from the time commercial operations begin.

This substantially increases provisions from the current fixed 0.4%.

LOSS OF CREDIT
The Reserve Bank of India’s proposed new provisioning model for expected credit losses says banks should recognise the stress situation much earlier than now, in line with Indian Accounting Standards currently followed by non-banking financial companies. Banks currently make a provision when a loan is flagged as a non-performing asset; under the proposed model, this will have to be done much earlier. Bankers said moving towards an expected credit loss framework was expected, but doing so alongside increasing provisions for project finance and forcing banks to set aside more deposits could impede credit growth in the immediate future.

“These rules will definitely hurt credit growth and, by extension, harm economic growth and job creation. By asking banks to set aside more deposits for digital banking, banking“The RBI is basically discouraging digitalisation, which is totally contrary to what they preach,” said a second executive at a public sector bank. “If banks tax digital payments, it will increase cash circulation and promote a black economy, which I don’t think is the intention.”

LIQUIDITY COVERAGE RATIO
In its April monetary policy review, the RBI said it will amend the LCR framework to make lenders account for quick withdrawal of deposits due to availability of instant digital payment modes.

Currently, banks must maintain a stock of high-quality liquid assets to cover expected net cash outflows over the next 30 calendar days. These assets are mainly composed of government securities, which can be easily liquidated to meet banks’ cash needs.

The LCR currently stands at 136% for banks, well above the minimum requirement of 100%. Bankers said imposing an additional charge on digital money outflows makes no sense. “It is not justified as bank liquidity is quite strong. Does the RBI want banks to curtail their deposit growth at a time when there is a need for more funds?” asked an executive at a private sector bank.

IN GOOD HEALTH
But analysts said there was probably no better time to tighten the screws and hedge against emerging risks.

“Overall, the health of the banking sector is robust, whether we look at capital adequacy buffer, net NPAs (non-performing assets), provision coverage or profitability,” said Ajit Velonie, senior director at Crisil Ratings. “Hence, from a regulator’s point of view, this is the best time to put in place norms that will help structurally strengthen the sector as banks are better positioned to handle any temporary transitory impact.”

Even after the implementation of the LCR guidelines, the average LCR of banks would only drop to 117%.

Similarly, Velonie expects the final guidelines for project finance to be nuanced, to balance creating adequate reserves for banks while facilitating the flow of credit to projects.