Trouble for NBFCs

Repayment moratorium should be extended to NBFCs

The unprecedented nationwide lockdown to contain the spread of Covid-19, which halted economic activity, is affecting income and will make debt repayment difficult for both firms and households. In order to give relief to borrowers, the Reserve Bank of India (RBI) rightly permitted banks and other lending institutions to grant a moratorium on paying term-loan instalments for three months. This will give relief to a large number of borrowers, but non-banking financial companies (NBFCs) are in a bind. While they need to give a moratorium to their borrowers, it is not clear if NBFCs themselves will be able to avail of this facility on bank borrowings. The largest lender in the country, State Bank of India, has said it will not offer a moratorium to NBFCs. Lower collections by NBFCs because of the extension of the moratorium to their borrowers, and the lockdown could result in a severe liquidity crunch. According to CRISIL, a rating agency, a quarter of the NBFCs it rates could face liquidity pressure if collections don’t pick up by June. Debt obligations worth Rs 1.75 trillion will be maturing for these companies by then. Non-availability of a moratorium will put the sector under material stress and can increase risks for the financial system. Over 25 per cent of borrowing by non-deposit taking systemically important NBFCs comes from bank. NBFCs also depend significantly on the commercial paper market. If their liquidity position is strained, pressure from the money market could exacerbate problems, resulting in possible defaults. Such a situation must be avoided as it could end up freezing the credit market.

The official position in the context of NBFCs and other financial institutions is that the RBI has made provision for sufficient liquidity through the recently announced targeted longer-term refinancing operations (TLTRO). Liquidity availed of by banks under TLTRO is to be invested in corporate debt instruments, both in the secondary and primary markets, including those issued by NBFCs. This may not be enough for NBFCs, which have witnessed significant turbulence since the defaults by the IL&FS group, and affect their ability to lend when the economy starts returning to normalcy. Although NBFCs are still a relatively small part of the bank-dominated Indian financial system, they play a vital role in servicing the credit needs of several important segments of the economy. Therefore, it makes sense for the authorities to extend the moratorium to NBFCs as well. This will not only reduce systemic risk but also aid economic recovery when the lockdown is lifted.

At a broader level, the policy objective should be to make sure that the economic shock doesn’t get amplified because of trouble in the financial sector. While the RBI has taken steps to ease liquidity, it may need to take additional measures to contain financing stress. Former RBI governor Raghuram Rajan, for instance, has suggested that the central bank can lend insurance companies and well-managed NBFCs, which can then invest in corporate bonds. This will help ease financing pressure on corporations. The resumption of economic activity is likely to be gradual. Therefore, it is important for the government and the RBI to take steps to ease regulatory and financing pressure on firms, including financial intermediaries like NBFCs. A large number of defaults will only hurt the pace of economic recovery.