The Non-Bank Financial Corporations (NBFCs) were already facing a liquidity crunch when coronavirus pandemic hit and disrupted economic activities across various sectors.
Ever since the default of Infrastructure Leasing & Financial Services Limited (IL&FS) and Dewan Housing Finance Corporation Ltd. (DHFL), the NBFCs have been facing difficulty in meeting their funding requirements.
[Read about the IL&FS crisis and the collapse of DHFL. IL&FS and DHFL are NBFCs. As they cannot accept deposits from the public, they have to rely on bank loans and debentures to raise money. After their default, banks become wary of lending to NBFCs leading to a liquidity crunch ]
To add to its woes, in March, to mitigate the impact of the coronavirus pandemic on small businesses, the RBI asked all banks and NBFCs to provide moratorium or holiday on repayment of installments of all term loans outstanding as of March 1, 2020. Many banks and NBFCs have offered the moratorium to its customers.
[Read: RBI cuts rates to mitigate COVID-19 impact]
But, only select private sector and foreign banks extended the moratorium to NBFCs. The public-sector banks have been reluctant to do the same.
In short, banks have not expanded the moratorium scheme to NBFCs, but NBFCs have to allow it to their customers. This will create a liquidity mismatch in the sector and push it towards defaults.
The total outstanding bank loan to the NBFC sector is around Rs 7 lakh crore. Apart from bank loans, the NBFCs have a huge borrowings of over Rs 9 lakh crore from the market via debentures and commercial papers (CPs).
Recently, Moody’s investors services revised the credit rating of 3 NBFCs citing economic disruption due to COVID-19.
But, the RBI monitoring mechanism found that 100 top NBFCs, which account for almost 80 % of assets, are sufficiently liquid to withstand the liquidity crunch and will be able to meet their payment obligations.
Besides, RBI is offering indirect support to the sector through the Targeted Long Term Repo Operations (TLTRO) route. The RBI will inject liquidity into the banks through TLTRO. In turn, the banks will have to invest the money in commercial papers, etc issued by NBFCs.
[Read: What is Long Term Reverse Operations?]
But, the RBI has already auctioned 75 % of the targeted 1 trillion worth of Long Term Repos. However, the money has not flown to NBFCs.
Update: The RBI said in its address today that it will conduct targeted long-term repo operations 2.0 worth Rs.50000 crores. At least 50 % of the amount availed should go to NBFCs and MFIs
It is important to provide support to the NBFCs. Many NBFCs are facing an existential threat. It will have a contagion effect on the financial system as a whole. Even the repercussion of the IL&FS was felt throughout the system due to heavy inter-sectoral exposure of the sector.
Moreover, the NBFCs are largely involved in serving the borrowers excluded from the formal banking sector like low-income households and small borrowers. This class of borrowers is the most vulnerable to COVID shock and will, therefore, most likely opt for a moratorium. However, if NBFCs do not have enough liquidity, it will create an asset-liability mismatch. It will also lead to an increase in the cost of fresh borrowings for small borrowers.
[Read: Impact of COVID-19 on MSMEs]
To conclude, in what can be termed as a reprieve, the SBI has decided to support lower-rated NBFCs with new loans of up to Rs.200 crores per company to tide over liquidity mismatch. Most PSUs are expected to follow suit.