India’s retail credit growth: Boon or bane?

10-15 years ago, getting a loan sanctioned was a tedious process. Borrowers had to approach banks for loans, carry out time consuming paperwork and convince them of their credit worthiness. It usually took weeks or even months before loans were sanctioned and processed. Consumption loans or loans to the millennials, Gen Z or “New to credit” category was virtually unheard of.

Consumer finance revolution

Then came the NBFCs like Bajaj Finance, Tata capital which transformed this consumer leding market. With an army of trained sales employees and credit officers, the lending process reduced drastically from weeks to days or even hours. While borrowers got freed from the dependency of banks, the lending process still remained human-intensive. 

Then came digitisation

In the past few years, the digitisation push is bringing about another revolution in this space, albeit even more dramatic. The new buzzwords are now Fintech, eKYC, eSign. While the NBFCs made the loan process quick and hassle-free, this revolution is bringing fast and affordable credit to even those who were till now unserved by the banks — the new evolving category of borrowers who are new-to-credit (NTC).

NTC – the next big fish

New-to-credit (NTC) customers are those with no credit history. Like for example a 20 year old in his final year of college and looking for credit to buy an expensive laptop. 

The origin of NTC customers can be traced back to 2014 with the introduction of the Pradhan Mantri Jan Dhan Yojana where people got access to bank accounts to promote financial inclusion. Sensing an opportunity in this space, many NBFCs and fintechs stepped up to help them access credit. According to a recent study by TransUnion, a consumer credit agency, for the first time, consumers from the 18-30 year-old age group accounted for the largest proportion of loan inquiries during July – Sept’22. Personal loans, followed by credit cards were the most demanded categories for them. Apart from younger customers, rural areas is also being seen as the next big driver of this NTC segment – who have historically been outside the ambit of financial inclusion due to their location, or their lack of connectivity. 

Banks playing catch up

Banks have usually not catered to NTC loans because of absence of a reliable credit history. Since these loans are small and usually unsecured, they do not fit their risk appetite for them who have a pre-determined screening criteria of CIBIL scores > 700. But this is changing. 

According to the survey, NTC clients are likely to use the same account to take another loan. In the long run, banks will lose out on business if users stay loyal to these NBFCs and new age fintech. 

Most banks have already started increasing their exposure to retail credit and these NTC lenders seem to be laying the groundwork for what could be a bigger play on retail credit.

The retail push

With sluggish utilization rates in manufacturing, uncertain economic demand, tight financial conditions and increased corporate defaults and regulatory scrutiny, the outlook for corporate lending is losing its sheen. And therefore retail credit has become the go to segment for banks. FYI, IDFC First Bank’s return on equity on retail loans is 18 -20%, double its overall ROE.

Retail loans, or loans to individual borrowers, first overtook commercial or corporate loans in November 2020, and have since then dominated the portfolio of most banks. Of the four main borrowing sectors (Personal, services, Industrial and agricultural), individual loans are now the largest for Indian banks. 

Boon or bane?

India is seeing a consumption led demand push, and the participation of young people, women, and people from rural areas signifies that there has been a greater degree of financial inclusion seen. This helps people finance their lifestyle with hassle free small loans at relatively low costs. However, it creates credit dependency and may result in overspending. 

Even though personal loans show lower delinquency and are safer compared to commercial loans, the multitudes of people involved and the amount of the loans makes the cost of recovery astronomical. An equivalent of a single corporate loan of ₹100 crore would be 100 individual home loans of ₹1 crore each. 

Conclusion

RBI’s latest Financial Stability Report has brought forward this growing possibility of a “systemic risk” in individual loans. Systemic refers to this herd behaviour when institutions may not individually be important in the overall system but behave in a way similar to others and, as a result, get exposed to common risks. As of Sept’22, PSU banks had gross NPA levels of ~16% and 7% in credit card and education loans respectively. Similarly, private banks had 5.1% gross NPAs in education loans. Banks have largely preserved asset quality in personal loans. But as this space expands, so will the challenges posed by it. It is already on RBI’s radar who has asked banks to submit detailed reports of their retail loan portfolio. 

Increased regulation for digital lending, prohibition of use of prepaid instruments issued by NBFCs through credit lines are all steps in fear of this blowout. 

While these loans come as a godsend for the cause of financial inclusivity, too much of anything is not good, right?

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