The Hindu Business Line : Non-Banking Sector — Needed, a developmental authority

Regulated as the non-bank entities are by different agents, an integrated financial market is conspicuous by its absence. It is time for a unified regulatory agency, which alone can leverage the sector's strengths to ensure faster economic growth.

Recently, the Reserve Bank of India re-grouped the asset-financing non-bank financing companies (NBFCs) engaged in financing real and physical assets supporting economic activity — such as automobiles and general purpose industrial machinery — as asset financing companies (AFCs). The remaining companies will continue to be called loan and investment companies. In the proposed structure, the following categories will emerge — asset financing companies, investment companies and loan companies.

This highlights the need for a comprehensive approach towards the non-banking sector instead of looking at issues piece-meal. The non-banking sector consists of an assorted group of entities, regulated by different agencies with the stress more on regulation than on the development of an integrated financial market.

To quote the RBI's (Trend and Progress of Banking in India; November 14, 2006): "Though heterogeneous, NBFCs could be broadly classified into four categories — equipment leasing, hire purchase, loan companies and investment companies. A separate category of NBFCs, called residuary non-banking companies (RNBCs), also exists, as they could not be categorised slotted into any one of the other four categories. Besides, there are miscellaneous non-banking companies (chit funds), mutual benefit financial companies (nidhis and un-notified nidhis) and housing finance companies.

"It is noteworthy that nidhi companies are not regulated by the RBI as they come under the regulatory purview of the Ministry of Company Affairs, while the chit fund companies, although governed by the Miscellaneous Non-Banking Companies (MNBCs) (Reserve Bank of India) Directions, 1977, issued by the Reserve Bank with regard to acceptance of deposits, are regulated by the Registrar of Chits of the respective State Governments. Furthermore, MNBCs, not accepting public deposits have been exempted from submitting returns to the RBI since December 27, 2005."

This indicates that heterogeneous entities are put together and regulated by different agencies, with serious implications for the unification of the market structure.

Heterogeneous entities

There are, for instance, the unincorporated bodies, mainly money-lenders, which are regulated by State governments, including the rates and other covenants. The chit funds also come under the Registrar of Chits of the State governments, while the nidhis are overseen by the Department of Company Affairs.

Many committees and groups have been constituted to develop the non-banking sector so as to create an integrated financial market. Some of these panels are the Bhabatosh Datta Study Group; the James Raj Study Group, the Chakravarty Committee; the Vaghul Committee; the Narasimham Committee; the Shah Committee; the Khanna Committee; and the Vasudev Committee.

But, unfortunately, the focus seems to be on regulation rather than development. Particularly after the bad experience with some NBFCs in the late 1990s, the focus has significantly shifted to the liability side of the entities rather than the asset side.

The fact that the non-banking sector plays a crucial role in financing activities that are the engines of economic growth, such as non-railway transport (trucking); hotels and restaurants, wholesale trade and retail trade and other services, is not to be ignored or glossed over.

Vital role in economy

There is a need to recognise that these financial entities — from the smallest money-lender to large corporates — play a vital role in the economy. The focus must be on the development of the sector and, in the process, strengthen credit availability for the non-corporate sector.

According to RBI data, the NBFCs have total assets of nearly Rs 60,000 crore as of 2006. This is without considering the unincorporated bodies, which are large in number and also play a major role in the credit market.

Other than the NBFCs on which data are provided by the RBI, there is a huge informal sector, of moneylenders, etc., which provides a substantial portion of the credit requirements of the economy. Table 1 shows the share of the non-institutional sector in the credit needs of the economy.

From Table 2, it is clear that 43 per cent of the debt of rural households was from moneylenders (25 per cent in the case of urban households) during 2002.

Hence, we need to recognise the importance of the entire spectrum of the non-bank sector, rather than see it in a segmented fashion.

The focus should be on development and not just on regulations. It is time the Government and the RBI think of constituting a Non-Bank Developmental and Regulatory Agency (NBDRA).

Of course, regulation should come after development. The said authority should also have it under its ambit the unincorporated bodies now regulated by State governments.

The authority can be under the Finance Ministry or under the RBI as long as the learning curve is being traversed.

The said authority should facilitate:

Enhancing the credit delivery mechanism for "unorganised" sectors;

Introduction of rating processes at retail level;

Creating a level playing field when global players enter retail;

Reversing the inverse relationship between the size of borrowing and the cost of borrowing;

Strengthen the professionalism of the non-bank sector through education and training

Integrating the financial markets.

It is evident that the architecture of the Indian financial system must be recast if it has to ensure growth of the economy along with adequate availability of credit to the fastest growing sectors of the economy.

The aggregate monetary policy of the central banker can be achieved if, and only if, the role of non-banking financial institutions, including the UIBs, are recognised encouraged and integrated into our financial system. And, for that, we need the kind of authority mentioned above.

(The author is Professor of Finance and Control, Indian Institute of Management-Bangalore, and can be contacted at vaidya@iimb.ernet.in. The views are personal and do not reflect that of his organisation.)

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