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RBI Proposes New Liquidity Norms For NBFCs

The RBI has proposed the introduction of liquidity coverage ratio in a staggered manner for NBFCs and mandated more disclosures.

The new RBI NBFC norms envision a liquidity coverage ratio for non-banking lenders to ensure that they have some buffer available in times of stress. (Photographer: Adeel Halim/Bloomberg)
The new RBI NBFC norms envision a liquidity coverage ratio for non-banking lenders to ensure that they have some buffer available in times of stress. (Photographer: Adeel Halim/Bloomberg)

The Reserve Bank of India on Friday released draft rules proposing to tighten the liquidity framework for the country’s non-banking financial companies.

The new RBI NBFC norms, if finalised, will bring in a more robust governance and reporting structure for monitoring liquidity risks and introduce a "liquidity coverage ratio" in order to ensure that NBFCs have some buffer available in times of stress.

The rules come against the backdrop of an NBFC crisis, which was sparked by the collapse of Infrastructure Leasing and Financial Services. The default by the once-AAA rated firm led to tightness in the credit market and exposed liquidity risks on the balance sheets of NBFCs.

The RBI is now trying to correct some of the concerns that emerged.

Introducing Liquidity Coverage Ratio

The first big change being proposed by the RBI is the introduction of the liquidity coverage ratio, similar to banks.

Liquidity coverage ratio refers to the proportion of highly liquid assets held by financial institutions, to cover for any short-term obligations. It is calculated by dividing a bank’s high-quality liquid assets by its net cash flow over a 30-day period.

The RBI proposes to introduce liquidity coverage ratio in a staggered way for NBFCs.

  • Starting April 1, 2020: liquidity coverage ratio of 60 percent.
  • From April 1, 2021: liquidity coverage ratio of 70 percent.
  • From April 1, 2022: liquidity coverage ratio of 80 percent.
  • From April 1, 2023: liquidity coverage ratio of 90 percent.
  • From April 1, 2024: liquidity coverage ratio of 100 percent.

Banks are currently required to maintain a liquidity coverage ratio of 100 percent. As such, the rules introduced for NBFCs are still less stringent than those prevailing for banks. Still, they will ensure that NBFCs hold a specified amount of liquid assets, mostly in the form of government bonds.

Asset-Liability Mismatches

To ensure that asset-liability mismatches don’t get out of hand, RBI has set limits for the extent of ‘negative’ mismatch permitted in shorter maturity buckets. An asset-liability mismatch occurs when the tenor of an institution’s assets and liabilities do not match.

The net cumulative negative mismatches in the maturity buckets 1-7 days, 8-14 days, and 15-30 days buckets should not exceed 10 percent, 10 percent and 20 percent of the cumulative cash outflows in the respective time buckets.
RBI Draft Rules

Ideally, a financial company should have no negative mismatch as it would mean that there is an urgent need for refinancing. As such, the RBI permitting some negative mismatch may not go a long way in tightening the rules for NBFCs.

Stronger Governance, Increased Disclosures

The central bank also proposed a stronger governance structure for managing liquidity mismatches.

The board of directors shall have overall responsibility for management of liquidity risk. “The board should decide the strategy, policies and procedures of the NBFC to manage liquidity risk in accordance with the liquidity risk tolerance/limits decided by it,” said RBI. The risk management committee, which reports to the board, shall be responsible for evaluating the overall risks faced by the NBFCs, including liquidity risk, RBI said.

Besides, NBFCs must make extensive disclosures from here on. These disclosures include:

  • Funding concentration based on significant counter-parties.
  • Top 20 large deposits.
  • Top 10 borrowings.
  • Funding concentration based on significant instrument/products.
  • Exposure to CPs, NCDs and other short term liabilities.

Who The Rules Apply To

The rules will be applicable to NBFCs and core investment companies, the RBI said.

In case of NBFCs, the proposed RBI norms, once finalised, will apply to all deposit-taking NBFCs and non-deposit-taking NBFCs with an asset size of at least Rs 100 crore. For core investment companies, the rules will be applicable to all those registered with RBI.

The central bank has sought feedback till June 14 before framing the final rules.

“On the face of it, the guidelines seem to be positive for the NBFC sector since it will bring in some formal management of the liquidity framework that these companies used to run,” Karthik Srinivasan, head (financial sector ratings) at ICRA, said. “ NBFCs that were earlier playing the regulatory arbitrage would be forced to follow a more formal framework. With additional supervision of the RBI, the current issues can be better addressed.”