In a significant move to ease capital requirements for banks, the Reserve Bank of India (RBI) has reversed its November 2023 decision to increase the risk weight of bank loans to non-banking financial companies (NBFCs). This rollback, set to take effect from April 1, 2025, will free up substantial capital for banks and potentially boost credit flow to NBFCs.
Additionally, the RBI has clarified that risk weights for microloans will now be 75% or 100%, depending on the nature of the loan, instead of the previous 125%.
Restoring Risk Weights for NBFC Loans
In its latest circular, the RBI stated:
“Upon review, it has been decided to restore the risk weights applicable to such exposures (NBFC exposure), and the same shall be in line with the external rating.”
Previously, the November 16, 2023 circular had increased risk weights on bank loans to NBFCs by 25 percentage points where the existing risk weight was below 100%. This affected loans to highly rated NBFCs, including those with AAA, AA, and A ratings, leading to higher capital requirements for banks and slowing loan growth to shadow banks.
Impact on Bank Credit to NBFCs
The decision to increase risk weights had an immediate impact:
- Bank loan growth to NBFCs fell from 15% in December 2023 to 6.7% in December 2024.
- Overall bank credit growth also slowed to 11.2% from 20% in the same period.
Experts Weigh In
Anil Gupta, Senior VP, Financial Sector Ratings at ICRA, noted:
“Restoring lower risk weights for better-rated NBFCs will improve credit flow from banks while immediately benefiting their capital ratios.”
Ajit Velonie, Senior Director at Crisil Ratings, emphasized the positive impact on NBFCs:
“Lowering risk weights will free up bank capital and is a major boost for the NBFC sector. Before November 2023, 47% of NBFC borrowing was from banks. This fell to 45% over the past year as NBFCs turned to alternative sources like capital markets and external commercial borrowings (ECBs). With rising hedging costs for ECBs due to dollar fluctuations, alternative funding options were becoming limited.”
Clarification on Microloan Risk Weights
The RBI also addressed concerns about microfinance loan classifications, particularly for small finance banks with large microloan portfolios.
- Regulatory retail and business loans – 75% risk weight
- Consumer credit loans (for consumption purposes) – 100% risk weight
Previously, all microloans carried a 125% risk weight, causing confusion among banks regarding whether they needed to increase capital allocations.
A mid-sized commercial bank’s risk officer highlighted how this clarification resolves ambiguity:
“Some banks were asked by RBI supervisors to increase the risk weight, leading to differential treatment. That ambiguity has now been removed.”
Velonie further added:
“It is now clearly stated that microfinance loans categorized as consumer credit will have a 100% risk weight, while those meeting regulatory retail criteria will have a 75% risk weight.”
Looking Ahead
With this rollback, the RBI aims to revive credit flow to NBFCs, reduce capital strain on banks, and ensure a more consistent regulatory framework. As banks regain lending flexibility, the move is expected to support economic growth and financial stability in the coming years.
