No More a Shadow (of a) Bank

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(Remarks delivered by Shri M. Rajeshwar Rao, Deputy Governor, Reserve Bank of India – February 09, 2024 - at the NBFC Summit organised by Confederation of Indian Industry at Mumbai)

 Regulatory approaches for NBFC sector

  • While framing the regulations for the financial sector, Reserve Bank has always been conscious of the fact that the degree of regulation of a financial entity should be commensurate with the perception of risks posed by the entity and the scale of its operations on the financial system. 
  • Our regulatory approach towards NBFC sector has been guided by a combination of activity-based and entity-based regulations to safeguard financial stability and protect customers.
  • We have tried to leverage the strengths of both these approaches to achieve a more comprehensive and flexible regulatory framework.
  • We find this hybrid approach particularly valuable for an ever evolving NBFC Sector, where innovations and new business models seem to be constantly emerging.  
  • Entity based regulations have the advantage of providing a comprehensive view of overall risk exposure of a specific financial institution and is better placed to address the systemic risks arising from the interplay of various activities within a single entity to minimize negative externalities.
  • From regulator’s perspective, entity-based regulations are generally easier to implement and enforce, as regulations are applied uniformly to a set of entities.
  • However, the flip side is that entity-based regulations may be less precise in targeting specific activities, slower to adapt to changing landscape, and, at times, may potentially impose extra burden on low-risk activities.
  • On the other hand, activity-based regulations allow for more precise targeting of potentially risky financial activities by enabling the regulators to focus on high-risk activities regardless of the type of institution involved. 
Are Upper Layer NBFCs regulated at par with banks? 
  • Minimum initial capital requirement for a universal bank is ₹1000 crore vis-à-vis ₹10 crore for an NBFC. 
  • Also, the scrutiny for a banking license applicant is much more rigorous than the scrutiny for an NBFC license applicant primarily to reflect the access of public deposits through a bank license.
  • To provide a perspective, it may perhaps be pertinent to mention here that RBI has provided certificate of registration to 447 NBFCs over last five years whereas no universal bank license has been given and only 2 small finance banks (SFBs) have been given licenses during this period.
  • Second major difference is that banks cannot engage in any activities other than those which are specifically provided under the Banking Regulation Act, 1949. Whereas there is no such provision under RBI Act governing NBFCs’ regulations. Also, banks are required to deploy minimum 40% of the adjusted net bank credit towards priority sector lending and this requirement is even higher for SFBs at 75%. NBFCs have no such requirements.
  • Sometimes, it is also argued that the regulatory capital requirement of NBFCs is higher at 15% vis-à-vis 9% for banks. However, it needs to be noted that banks’ capital requirement comprises of credit, market and operational risk capital charges whereas for NBFCs (including NBFCs in the upper layer), the capital requirement is based only on credit risk capital charge. Even components of regulatory capital are not as elaborately prescribed as is the case for banks. 
  • There are almost no regulatory restrictions for operations of NBFCs. Commercial banks on the other hand, are subjected to detailed branch authorization policy prescribing the manner in which they can open the branches. There are no corresponding guidelines for NBFCs (including NBFCsUL). 
  • In a nutshell, I would like to emphasize that the regulations for NBFCs (especially in the upper layer) are much more calibrated and are certainly not on par with the regulations applicable to banks. 
Concluding thoughts  

  • We have recently come out with a draft omnibus framework for the Self-Regulatory Organisations (SROs). The SROs are expected to play an important role in improving the compliance culture as well as promote ethical business practices, customer protection, better governance standards, sound risk management measures and contribute positively to the orderly development of the financial sector, including NBFCs.
  • The NBFC sector is an important stakeholder of the Indian financial sector. Strengthened regulation and enhanced oversight of the NBFC sector is the best testimony of the importance of the NBFCs in not only the financial system but overall economy. It’s time that NBFC sector comes out of its own shadow as well as that of the banking sector. I am sure that NBFCs will play a significant role in achieving the dream of a $5 trillion economy going forward.
No More a Shadow (of a) Bank


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