In a bid to strengthen and raise the standard of asset-liability management (ALM) framework of struggling non-banking financial companies (NBFCs), the Reserve Bank of India has proposed stringent norms, including introduction of liquidity coverage ratio (LCR), granular maturity buckets in the liquidity statements and tolerance limits, liquidity risk monitoring tool and adoption of the “stock” approach to liquidity.
The RBI draft proposes to introduce liquidity coverage ratio for all deposit taking NBFCs and non-deposit taking NBFCs with an asset size of Rs 5,000 crore and above. “With a view to ensuring a smooth transition to the LCR regime, the proposal is to implement it in a calibrated manner through a glide path over a period of four years commencing from April 2020 and going up to April 2024,” the RBI said in a notification on Friday, amid growing worries over an “imminent crisis” in the NBFC sector due to credit squeeze, overleveraging, excessive concentration, massive mismatch between assets and liabilities and misadventures by some large entities like the IL&FS group.
While some of the current regulatory prescriptions applicable to NBFCs on ALM framework have been updated/ recast, certain new features have been added, the RBI said in its draft circular on the “Liquidity Risk Management Framework for NBFCs and Core Investment Companies (CICs)” to be adopted by all deposit-taking and non-deposit taking NBFCs with an asset size of Rs 100 crore and above and all CICs registered with the RBI.
Many NBFCs came under severe liquidity pressure ever since the IL&FS crisis erupted, compelling them to stop deposit renewals and resort to high cost borrowings. Banks have been averse to lending to the sector, which has put them in a tight spot. There are concerns that NBFCs may run out of money, which will lead to defaults.
According to the latest RBI draft, the 1-30 day time bucket in the Statement of Structural Liquidity will be bifurcated into granular buckets of 1-7 days, 8-14 days, and 15-30 days. The net cumulative negative mismatches in the maturity buckets of 1-7 days, 8-14 days, and 15-30 days should not exceed 10 per cent, 10 per cent and 20 per cent of the cumulative cash outflows in the respective time buckets. “NBFCs, however, are expected to monitor their cumulative mismatches (running total) across all other time buckets up to one year by establishing internal prudential limits with the approval of the Board. The above granularity in the time buckets would also be applicable to the interest rate sensitivity statement required to be submitted by NBFCs,” the RBI said.
The RBI said all non-deposit taking NBFCs with asset size of Rs 5,000 crore and above, and all deposit taking NBFCs irrespective of their asset size, should maintain a liquidity buffer in terms of an LCR which will promote resilience of NBFCs to potential liquidity disruptions by ensuring that they have sufficient high quality liquid asset (HQLA) to survive any acute liquidity stress scenario lasting for 30 days. “The stock of HQLA to be maintained by the NBFCs shall be minimum of 100 per cent of total net cash outflows over the next 30 calendar days,” it said.
The LCR requirement will be binding on NBFCs from April 01, 2020 with the minimum HQLAs to be held being 60 per cent of the LCR, progressively increasing in equal steps reaching up to the required level of 100 per cent by April 01, 2024, the RBI said.
In addition to the measurement of structural and dynamic liquidity, NBFCs are also mandated to monitor liquidity risk based on a “stock” approach to liquidity. “The monitoring should be by way of predefined internal limits as decided by the board for various critical ratios pertaining to liquidity risk,” it said.
Apart from the liquidity risk management principles underlining extant prescriptions on key elements of ALM framework, the RBI has also decided to extend relevant principles covering other aspects of monitoring and measurement of liquidity risk like off-balance sheet and contingent liabilities, stress testing, intra-group fund transfers, diversification of funding, collateral position management and contingency funding plan.
According to the RBI, NBFCs play an important role in the financial system of the country, particularly in delivering credit to the last mile, including the retail as well as MSME sectors. “NBFCs’ ability to perform their role effectively and efficiently requires them to be financially resilient, well-regulated and properly governed so that they retain the confidence of all their stakeholders including their lenders and borrowers,” it said.
The Central Board of the RBI had last week decided to create a specialised cadre to supervise and regulate the financial sector, including banks and NBFCs. The RBI also recently asked NBFCs with asset size of more than Rs 5,000 crore to appoint a Chief Risk Officer (CRO) with clearly specified role and responsibilities.
The Indian shadow banking industry’s rapid growth and reliance on short-term funding sources “bubbled over” in 2018, most evident by the default of IL&FS in September last year, a Fitch report said. Default by IL&FS, it said, translated into higher borrowing costs and reduced market access for other non-bank financial institutions, leading to domestic regulators to re-examine liquidity norms for the sector and prod banks to increase their lending to, and asset purchases from, such entities.
Meanwhile, sources said the Reserve Bank is not in favour of providing special credit window to the NBFC sector to tide over the liquidity crunch as the cash crunch phenomenon is not systemic.