Fueling demand: Consumer finance needs a reinvigorating boost

With a well-administered First Loss Guarantee, banks and NBFCs can quickly deliver liquidity in individual hands, thereby creating an ecosystem that can revive the economy

Raj Khosla
Updated: Jun 22, 2021 07:46:00 PM UTC
Image: Shutterstock

Covid-19 is the quintessential ‘black swan’ event and has truly tested the resilience of the Indian economy. A few months ago, it felt as if the worst was behind us, and that we were on the road to a robust recovery. In a case of twice-bowled, we were then cruelly blind-sided by the second wave, laying bare all of the shortcomings that we had unfortunately glossed over, and that which cost us lives and devastated the economy.

Consequently, there is now widespread gloom and doom and an interminable loss of confidence—hence the yawning demand shortfall. While public sentiment will lift with the efflux of time, we should somehow try to put money in the hands of consumers and encourage spending. As an enabler, consumer finance needs a reinvigorating boost.

As a follow up to last year’s moratorium, the Reserve Bank of India (RBI) has announced ‘Resolution Framework 2.0' and extended the scope of Emergency Credit Line Guarantee Scheme (ECLGS). These RBI announcements were deliberated to mitigate the pandemic-induced financial woes, protecting employment and, most importantly, providing support by way of making available ready liquidity for banks and NBFCs.

Banks are flush with funds
Banks are the obvious key players in financing a nation’s consumption and investment. Abundant and overflowing liquidity is the start point to extend fresh credit.

Over the last year, RBI has regularly injected substantial liquidity into the banking system. Even after the second wave, RBI swiftly announced Rs 50,000 crore as capital support for NABARD, NHB, and SIDBI. A sizable chunk will be available for fresh lending to small businesses including restaurants, travel agencies, beauty salons, and other similar businesses.

Credit challenges beyond liquidity Liquidity with banks is a means to an end, and not an end in itself, i.e., the spending power must flow into the hands of individual consumers. However, given the uncertainties in our economy, banks and NBFCs would obviously favour lending to existing customers and there is an understandable reluctance in extending first-time credit.

After a year of spasmodic business activity and stressed household inflows, there is a perfectly justified and totally understandable fear of NPAs (non-performing assets). However, in the absence of new borrowers, credit off-take would always remain subdued and the overall demand shortfall in our economy will perpetuate itself. In other words, we require an enabling ecosystem wherein banks can lend fearlessly, especially to new customers. Otherwise, all the excess liquidity with the banks will find its way back to the RBI, instead of in individuals’ pockets.

Purchasing power in the hands of consumers will fuel across-the-board demand and lift the economy onto a confident trajectory. Accordingly, the government should immediately announce a scheme of First Loss Guarantee (FLG), as an effective and low-cost tool to reenergise bank lending.

What is FLG?
FLG is the proverbial win-win solution for all principal constituents i.e. lenders, consumers, and also for the government.

This scheme is a tried and tested policy for credit enhancement, offering protection for lenders against the dreaded NPAs.

Historical data suggests that a maximum of five percent of individual consumer credit may end up as NPA. Therefore, when the government offers to subsidise the first 20 percent of all of the bad credit, banks and NBFCs can continue to lend as per their normal appraisal policies, even in the current challenging environment.

Empirical marketplace feedback confirms a persistent demand for personal finance, i.e., home loans, business loans, personal loans, credit cards and so on. With an FLG in place, new to bank (NTB) customers will find it much easier to access credit. And the consequent lift in consumer spending would be a clear panacea for the demand shortfall.

Since FLG is only a guarantee, the government is not required to undertake any upfront disbursal of funds and as such, there is no immediate impact on the fiscal deficit. It’s only when consumer default actually takes place that the banks would place a claim with the exchequer, and that could well be a few years from now. In May 2020, a Rs 20 lakh crore booster package—Aatmanirbhar Bharat— was announced, which included Rs 3 lakh crore as support for businesses and industries, and also for stressed NBFCs. In all fairness, the follow-on logic is inescapable, as there should also be a stimulus for personal finance.

Revival of consumer demand
Theoretically, a 20 percent FLG of Rs 1 lakh crore would enable consumer credit facilities of Rs 5 lakh crore. Resulting in a humungous 360-degree lift in demand for home buying, automobiles, white goods, holidays, home improvement, and so on. This is the fundamental jumpstart that we need on a yesterday basis.

Urgency is paramount, i.e., the demand stimulus is required immediately, and not over a staggered timeframe. A strict timeline mandate is necessary—Rs 5 lakh crore should be compulsorily disbursed over the coming months, and be completed by March 2022. Availability of cash in the wallets of individual consumers is a straightforward prescription for a limping economy.

In the interests of clarity and robustness, an FLG should not be open-ended. For instance, for personal finance disbursals between now and March 2022, claims beyond March of 2025 should not be permissible. A three-year fixed validity is enough. Personal loans, auto loans are typically short-term facilities; and home loans beyond three years rarely go the NPA route. Any exchequer would be comfortable in supporting a facility with distinct start and stop dates.

Final words
For existing credit facilities, moratoria and restructuring are of course very welcome and much-required relief measures. However, it is fresh credit that borrowers are seeking, and it is consumer spending that will jumpstart the economy, i.e., real estate, travel, consumer durables, automobiles, and motorbikes. Through a well-administered FLG scheme, banks and NBFCs can quickly deliver liquidity in individual hands, thereby reviving the economy and also contributing to a general feel-good factor.

The writer is a managing director of MyMoneyMantra

The thoughts and opinions shared here are of the author.

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