The Reserve Bank of India’s draft guidelines on project financing has created a ripple of anxiety among lenders and infrastructure players, with many of the industry groups approaching the regulator to relax the rules. The bone of contention in the guidelines is the proposal that lenders should make a general provision of 5 per cent of the outstanding loans in all existing as well as fresh project loans. Lenders are of the opinion that this will reduce the funds available for giving credit and will increase the cost of project financing. While the provisioning by lenders could go up a little, the central bank’s move seems to be guided by prudence. The higher provisioning is a pre-emptive action which will prevent risks from building-up in bank balance sheets.

The cautious stance adopted by the central bank is influenced by past lending mishaps, notably during 2004 to 2008, when large loans given to infrastructure projects, turned into bad loans, severely impairing bank balance sheets. Financing large infrastructure projects continues to be a risky proposition given their long duration and the numerous uncertainties which can derail the execution. RBI’s latest fiscal stability report notes that GNPA for infrastructure, excluding electricity, was at an elevated level of 4.9 per cent as of September 2023. GNPA in the construction sector was higher, at 8.7 per cent. Many of the corporates could be waiting for the political uncertainty around the general elections to be over before embarking on capital expenditure. The central bank is therefore right in tightening the rules for project lending at this juncture, so that the future growth in private capital investment is smooth .

The fears of the lenders regarding the capex cycle getting impeded by these rules are largely unfounded. Once demand improves, private sector will come forward to make capital investments, regardless of the small jump in finance cost caused by these rules. With the interest rates set to trend lower in the coming months, finance cost will move down anyway. Also, the central bank is not asking banks to increase the provisioning from the current 0.4 per cent to 5 per cent immediately. The provisioning has to increase gradually by 1.5 per cent every year, to reach 5 per cent by March 2027. That said, the central bank should take the feedback from the industry and other stakeholders regarding the 5 per cent limit set for provisioning and calibrate it lower if required. Similarly, the timeline for making the provision can also be extended further, if considered necessary.

Interestingly, the tighter regulations could turn out to be a boon if it makes borrowers look for alternate avenues for their project financing needs. The longer tenure of project finance results in asset-liability mismatch in banks since their deposits are typically of shorter duration. Shifting borrowers to the NaBFID (National Bank for Financing Infrastructure and Development), which finances loans for longer duration is a good option. Allowing infrastructure companies to tap the bond market with long duration bonds is another option which can be encouraged.