In my view. How co-lending can de-risk the debt market

At 8.4 per cent, according to recent estimates, India’s growth is the fastest among major economies globally. The country is seen on track to becoming the third-largest economy, surpassing Japan and Germany, by 2027.

However, its credit market still lags those of major economies. The global average for ‘credit to private sector-GDP’ ratio is 97 per cent whereas it is only 55 per cent in India. This means many Indian borrowers still struggle to access formal credit. When traditional lending models weren’t enough to bridge this divide, the Reserve Bank of India introduced co-lending, a game-changing collaboration between banks and non-banking financial companies (NBFCs). Despite its potential, like any new development, it faces challenges.

Growing pains

Co-lending has grown explosively in recent years. Assets under management (AUM) have ballooned to nearly ₹1 lakh crore in the past five years, according to rating agency CRISIL. However, the RBI has flagged a host of concerns.

The first is related to underwriting standards and asset quality, namely prioritising speed over thoroughness in assessing loan applicants. This could lead to a growth in risky loans (prone to default) and impact the overall quality of co-lending assets. The RBI wants banks and NBFCs to ensure greater due diligence during loan evaluations.

The next worry is over the unprecedented growth of unsecured retail loans and the associated systemic risk. To counter this the RBI had increased the risk weights on these loans last year, whereby lenders must hold more capital against unsecured loans to help stabilise growth and enhance financial resilience. Thus, if there is an increase in non-performing assets (NPAs) in the future, lenders will be better protected and guard against overly aggressive growth. These measures could, however, hinder co-lending’s reach in the priority sector lending (PSL) segment. The RBI isn’t against unsecured loans per se, but wants to foster responsible lending practices.

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Yet another worry is that the current 80:20 risk-sharing model between banks and NBFCs may not incentivise all partners, especially NBFCs with a smaller stake, to undertake proper due diligence. The RBI is also concerned about NBFCs’ high lending rates and the overall viability of the co-lending business model. It is exploring alternative risk-sharing structures that encourage responsible lending practices from both banks and NBFCs.

The RBI’s well-founded concerns are not roadblocks but opportunities to refine co-lending and unlock its true potential. 

Turning to tech

The focus sector for co-lending — PSL — includes borrowers such as small farmers, ‘micro, small and medium enterprises’ (MSMEs), and weaker sections with higher credit risk due to limited financial resources and vulnerability to economic fluctuations. 

Underwriting loans effectively in this segment hinges on leveraging technology. Partnering with credit evaluation firms that are adept in artificial intelligence (AI) and machine learning (ML) technologies, which aggregate data from diverse government portals like MCA, GST, and ITR, can yield valuable insights. Equally crucial is a tech partner capable of AI-based risk scoring, portfolio monitoring, and early warning signals (EWS) for borrowers lacking credit history or detailed information. Integrating co-lenders on such a secure, centralised platform enables seamless access to borrower data, facilitating comprehensive risk assessment and informed lending decisions.

Partnerships between banks and established microfinance institutions (MFIs) can be a game-changer for co-lending. The deep last-mile connections can significantly enhance the reach of lending programmes to those who need them the most.

To ensure adherence to regulations, there should be no grey areas in the co-lending framework. Parameters, compliance process, and regulations should be clearly defined, digitised, and accessible to all stakeholders. This transparency will ensure adherence to guidelines, fostering an efficient and reliable lending environment.

There should be unconventional products for a non-traditional model. Developing co-lending products specifically for the underserved could aid the growth of collateral-free loans in this segment. This could include micro-loans with flexible repayment structures and lower minimum income requirements, catering to small businesses, micro-entrepreneurs, and farmers.

(The writer is founder and CEO, Yubi Group)