Traditional lending at cross roads

 Traditional lending is at cross roads

Pre-Reform Era: When I joined the banking services in 1980, traditional lending was the buzz word. Tandon Committee, Chore Committee recommendations were the accepted norms for lending to corporates/businesses and scale of finance was the method used to finance short term agricultural loans. With the nationalisation of SBI in 1955, seven princely state banks in 1960s and twenty major private banks in 1969 and 1980, (i) short term borrowings to corporates/small and medium industries/small business finance, (ii) vehicle loans for business  purposes (tractors and lorries) and (iii) crop loans and term loans to agricultural  and allied activities were the approved ways of lending adopted by the scheduled commercial banks (SCBs). The long term requirements for implementation of projects and for purchase of capital equipments by the existing players were left to the development financial institutions (DFIs) such as ICICI and IDBI. Except for clean overdrafts ranging from Rs.25000 to Rs.1 lac for a short period of six months and loans against jewellery, no other loans to retail/individuals were entertained. 

Post Reforms Period starting 1992: When the economy was opened up and the financial reforms were brought in, exposure to personal loans started. It grew in a big way with the conversion of DFIs like ICICI, IDBI, UTI, HDFC into universal banks. While the DFIs turned universal banks were busy in extending personal loans including housing, vehicles for personal use etc., the SCBs, particularly the public sector banks (PSBs) entered in a big way to finance infra/project loans. Credit cards business continued in the hands of foreign banks like Citi, Standard Chartered Bank, BoA, HSBC  etc. 

Differentiated Banking Licence Era: Personal loans picked up pace after (a) major PSBs/private banks suffered heavily in their exposure to corporate sector including infrastructure in the first decade of the new millennium and (ii) micro finance institutions entered the banking space since 2016 as small finance banks (SFBs) under the differentiated bank licenses issued by RBI. All PSBs, major private sector banks and SFBs are now after loans, which are high yielding in nature like unsecured loans to individuals, credit card outstanding, micro finance in semi urban and rural areas. The permission by the regulator to co-lend, sell/buy unsecured credit portfolio by way of assignments aided further the momentum of growth of non-home loans in the retail sector. The old generation private sector banks, which were concentrating on gold loans to build their retail credit portfolio not long ago, are also seen keen to improve their share in the other retail loans.

I compared the lending growth in different sectors in the past ten years, with the help of data available in RBI monthly bullet-in.

                                                                                                                                 (Rs. in lac cr.)

S.No.	Sectors	Mar 2014	Mar 2024	Growth (%)	CAGR (%)
1.	Gross Bank Credit	56.57	164.35	191	19
2.	Industry, Of which	25.23	36.83	46	4.6
	Large	20.43	26.52	30	3.0
	Meidum	1.27	3.04	139	14
	Micro & Small	3.52	7.28	107	11
3.	Services, Of which	13.35	45.90	244	24
	NBFCs	2.94	15.48	427	43
	Other Services incl. financial services	3.35	10.17	204	21
	Retail Trade	1.53	4.86	218	21
4.	Agriculture	6.69	20.75	210	21
5.	Personal Loans	10.38	53.36	414	42
	Housing	5.42	27.23	402	40
	Vehicle Loans	1.30	5.89	353	35
	Credit Card outstanding	0.25	2.57	928	93
	Other Personal Loans	2.01	13.88	591	59

Interesting inferences: 

1. Gross Bank Credit CAGR is 19%, but the CAGR of industry loans is only 4.6% (large industries accounting for a mere 2.8%)

2. Services sector CAGR is healthy at 24% with major contributions coming from NBFC (43%), retail trade (21%) and other fiancial services (21%)

3. Agriculture surprisingly posted a CAGR of 21%. However, if the impact of interest accrued on agricultural crop loans capitalised during the period by increasing the scale of finance year after year and the recent surge in gold loans under agricultural sector were excluded, the CAGR might be well below 10-12%

4. The share of personal loans to gross bank credit had grown from 18% in Mar 2014 to 33% in Mar 2024. Interestingly, personal loans, which was 42% of gross bank loans to the industry sector, now stands at 145% of  total industry advances. 

5. While housing loan CAGR is in alignment with personal loans growth, the surge in CAGR recorded in the other personal loans (mostly unsecured and micro credit to individuals) (59%) and credit card  outstanding (93%) indicate clearly where the bankers are interested to lend.

6. Vehicle loans CAGR, slightly less than personal loans growth, has significant share of business under loans to 'used vehicles'.

Does it augur well for the economy/banking system?

I. Reasons for success: There are four to five reasons for lending in the non-secured personal loans and under-secured top up loans against 'used vehicles' 

(a) the yield on such loans is almost double (more than double in some cases) the return available in the secured loans, (b) easy appraisal formats mainly using scoring sheets and CIBIL score cards (c) non face-to-face apps used for applying, processing, sanctioning and disbursing (d) the increased availability of check-off facility/non-cancellable standing instructions to ensure regular repayments and (e) the high NIM and net profit having a direct impact on the market value of the respective bank's share in the stock market.

Concerns: While SFBs, major private banks(that came into being in the post reforms era) have fitted into the new type of lending admirably well, major PSBs and old-generation private banks are still in the stage of transition. Whether the economy will grow in real sense by the increase in consumerism effected by more cash in the hands of individuals through various types of loans offered on easy terms with higher interest, is debatable. There are also HR issues in those banks, which were recruiting staff traditionally in the past.

II. Major concern areas, in my view, are as under: 

1. The interest rates on unsecured loans, in whatever name you extend, (micro loans, unsecured personal loans, top up loans, credit card limits) are abnormally high.

2. The scoring sheets and score cards from rating agencies concentrate on repayment history, if available, EMI/NMI ratio based on current income levels,  ignoring the likelihood of the cashflows continuing for the entire repayment period. The analysis, which  concentrate on the present character and capacity, exhibited by the documents obtained, ignore the third C. viz. capital available to fall back in times of necessity.

3. Top-executives/middle level executives and fintech experts recruited by the various banks appear to have the habit of bringing their core team from their previous organisation for showing results quickly. However this might result in conflict with the existing staff, who feel ignored in the new decision makings. The organisation also needs deft handling of issues arising out of two sets of staff - one, who is permanent with defined salary structure and the other taken on contract on CTC basis.

4. A bank is known for its core values and is answerable to all stake holders including the depositors, who provide the major source of funds. In their anxiety to maximise the return for its shareholders in the short run, a bank relying heavily on loans, which gives higher income, may lose its focus on long term sustenance to protect its other stake holders.

5. Some of the supervisory/regulatory actions initiated by RBI in the last two years against some of the financial entities amply demonstrate that adequate firewalls are not yet in place in respect of apps developed for personal lending and 'ever-greening' of a retail portfolio is much easier than large value advances.

Regards

V.Viswanathan

28th June 2024