13/01/2025
In response to escalating concerns regarding unsecured and personal loans, the Reserve Bank of India (RBI) has initiated measures to address potential risks within the financial sector. The central bank’s apprehensions primarily stem from non-banking financial companies (NBFCs) extending unsecured loans, combined with extended tenures for consumer loans and inadequate security coverage.
To counter the accelerated growth in these segments, the RBI has heightened the risk weight on personal loans and credit card outstanding. Consumer loans, previously carrying a credit risk weight of 100%, will now bear a higher risk weight of 125%. This strategic move aims to compel banks and non-bank lenders to allocate additional capital to cover the credit risk associated with consumer loans.
This decision gains significance given the substantial surge in unsecured loans, surpassing overall credit growth by a considerable margin. Notably, credit card outstanding witnessed a YoY increase of 30%, while other personal loans and consumer durable loans grew by 25% and 11%, respectively, in September. In contrast, overall bank credit growth stood at 20% during the same period.
The regulatory intervention aligns with the RBI’s broader strategy to manage the rapid surge in consumer loans and fortify the financial sector amidst evolving technological landscapes and digital intermediation. By adjusting risk weights, the RBI aims to mitigate risks associated with unsecured lending, especially in light of potential defaults triggered by sharp increases in interest rates.
While these measures intend to enhance the resilience of the financial system, they pose challenges for banks and NBFCs. The increased risk weight on credit cards and consumer loans may constrain further lending to consumers and necessitate higher risk coverage for existing loans.
As part of these guidelines, lenders must provide upfront disclosure of all charges to borrowers and outline detailed recovery practices in case of defaults. This transparency aims to empower borrowers with comprehensive information and ensure responsible lending practices.
Banks and NBFCs, anticipating potential distress among personal loan borrowers, have proactively taken measures to protect their balance sheets. Given the unsecured nature of these loans, lenders face challenges in recovering dues, particularly for loans below Rs.50,000. The recent measures by the RBI underscore its commitment to maintaining financial stability and safeguarding against systemic risks in the consumer lending space.