Indian Central Bank Takes Steps to Regulate Unsecured Loans Impacting Consumer Spending

The Reserve Bank of India (RBI) has recently implemented new regulations targeting the fast-growing sector of unsecured loans, a move that is expected to significantly affect consumer spending and the operations of many startups in India.

The central bank's action involves increasing the risk weights on personal unsecured loans, including credit card and consumer durable loans offered by banks and non-banking financial companies (NBFCs). This change means that these financial institutions will now need to hold more capital against these loans, effectively making it more expensive for them to offer these products.

Impact on Startups and Consumer Credit

The RBI's decision is seen as a response to the rapid growth in unsecured loans, which are growing at almost double the rate of total credit expansion. This has raised concerns about the stability of this sector. Analysts from Goldman Sachs noted that this move reflects RBI's increasing caution towards the burgeoning growth of these loans.

Startups, particularly in the fintech sector, are expected to feel the brunt of these changes. Many startups depend on NBFCs to extend loans to consumers, and the increased cost of capital and tightened credit conditions could slow down their growth and increase operational costs. A fintech founder, speaking anonymously, indicated that this move would slightly reduce growth and raise the cost of borrowing money for startups.

Analysts from Jefferies, in their report, pointed out that for Paytm's lending partners, the higher funding costs and increased capital requirements could affect product profitability, particularly in buy-now-pay-later and personal loan segments. They may need to tighten credit standards and possibly moderate their growth, which is currently at high levels.

RBI's Concerns and Wider Implications

These measures also indicate RBI's concern over the rapid growth in unsecured loans and the increasing reliance of NBFCs on bank funding. Goldman Sachs analysts believe that the implementation of these measures will theoretically reduce the structural return on equity (ROE) in consumer lending, particularly for NBFCs, due to higher costs of funds and increased competition.

Lenders like Bajaj Finance, IDFC First, and SBI, which have a significant share of unsecured personal loans, are expected to be among the most affected. The RBI's action follows a trend of increased bank funding to NBFCs in India's finance sector, which now makes up more than half of NBFC's borrowings. The shift away from borrowings from mutual funds and insurance companies has prompted RBI's actions, which will make borrowing from banks more expensive for NBFCs and likely increase competition for alternate sources of funding.