The Reserve Bank of India (RBI) has released a draft circular on the ‘Liquidity Risk Management Framework for NBFCs and Core Investment Companies (CICs).
The Central Bank on Friday proposed a set of strict norms for non-banking financial companies (NBFCs), including mandatory investments in government bonds and maintenance of cash thresholds, to allow them to tide over liquidity problems and prevent re-occurrence of IL&FS type of debt crisis.
According to the proposal, a Liquidity Coverage Ratio (LCR) regime would be introduced in all deposit-taking NBFCs and non-deposit taking shadow banks with an asset size of Rs 5,000 crore and above in a phased manner.The shadow banks are non-bank financial intermediaries that provide services similar to traditional commercial banks but are not subject to regulatory oversight.
The RBI has released a draft circular on the ‘Liquidity Risk Management Framework for NBFCs and Core Investment Companies (CICs).
The Liquidity Coverage Ratio (LCR) rule for NBFCs begins April 2020, and thresholds must be implemented in stages by March 2024, the central bank has proposed.
The central bank with a view to ensuring a smooth transition, proposed that the Liquidity Coverage Ratio (LCR) rule for NBFCs which begins in April 2020, and thresholds must be implemented over a period of four years commencing April 2020 and up to April 2024.
The draft rules says that, the NBFC shall maintain an adequate level of unencumbered HQLA (High Quality Liquid Assets) that can be converted into cash to meet its liquidity needs for a 30 calendar-day time horizon under a significantly severe liquidity stress scenario.
HQLA means liquid assets that can be readily sold or immediately converted into cash at little or no loss of value or used as collateral to obtain funds in a range of stress scenarios.
The central bank furthur proposed that Asset-Liability Management Committee (ALCO): would consist of NBFC’s top management and should be responsible for ensuring adherence to risk tolerance and limits set by Board and for implementing the liquidity risk management strategy of the NBFC.
The draft also said that a Contingency Funding Plan (CFP) should be formulated by NBFC for responding to severe disruptions which may affect NBFC’s ability to fund some or all of its activities in a timely manner and at a reasonable cost.
The reasons for the the proposed guidelines is that many NBFCs, including DHFL and Indiabulls Finance, came under severe liquidity pressure compelling them to bring down their reliance on commercial papers (CPs).The CPs are debt instruments which is issued by companies to raise funds for a time period of up to 1 year.
Ever since 2018 when IL&FS crisis erupted banks have been averse in lending to this sector, which has further put NBFC’s in a tight spot. There are rising concerns that NBFCs may run out of money, which will further lead to defaults.
As per estimates about Rs.1 lakh crore of commercial papers (CPs) raised by NBFCs from investors will come up for redemption in next 3 months. But since NBFCs are cash-strapped, there is a looming fear that they will default on CPs.
In early May RBI had announced creating a special cadre to supervise and regulate financial institutions, including banks and NBFCs.