The Indian banking system will require Rs 84,000 crore of excess capital due to revised unsecured loans risk weights introduced by the Reserve Bank of India. This is set to increase the cost of borrowing for consumers as banks will have to set aside more capital for unsecured loans such as credit cards and small, personal loans.

The RBI wants banks to go slow on unsecured loans, which have seen a significant bulge in recent years. 

According to Soumya Kanti Ghosh, Group Chief Economic Adviser, State Bank of India, the immediate impact of the enhanced risk weights is the excess capital of around Rs 84,000 crore that the banking industry would need. This means a 55-60 basis point increase in capital to risk-weighted assets ratio (CRAR).

Second, the RBI circular impacts consumer loans in general but excludes housing loans, education loans, vehicle loans and loans secured by gold and gold jewellery. Filtering out the exclusions, consumer credit was growing at 25% plus since May 2022. The share of these loans affected by the RBI move (Rs 14.8 lakh crore) make up only around 9.8% of total outstanding loans (Rs 151.5 lakh crore) as of September 2023. The impacted portion of the personal loans category is only 31 % of the total personal loans — Rs 48.3 lakh crore — SBI said in a research report.

The current regulatory steps taken by the RBI may be called countercyclical measures as these types of actions refer to the measures (both monetary and fiscal) that stabilise the business cycle by reining in economic activity during booms and bolstering it during downturns, SBI said.

The RBI on Thursday increased risk weights on unsecured personal loans, credit cards, and lending to Non-Banking Financial Companies (NBFCs) by 25 percentage points.

The decision to raise the risk weights perhaps is an attempt by the RBI to send out a strong message of addressing any incipient financial stability risks in the system, the SBI economists said in their report.

The report also said measures introduced by the RBI are in continuity with the tilt towards an expected loss-driven stress recognition system for regulated entities and the RBI's recent move to subject 15 upper layer NBFCs to greater regulatory scrutiny.

With the Reserve Bank raising the capital requirement for the lenders, the lending rate for the borrowers of unsecured consumer loans would go up. “These announcements are expected to result in higher capital requirements for the lenders and hence an increase in lending rate for borrowers. These higher lending rates by banks to non-banks could also spill over to corporate bonds by way of higher yields and widening of credit spreads for non-banks,” said Karthik Srinivasan, Senior VP & Group Head, Financial Sector Ratings, ICRA.

The higher capital requirement is expected to moderate the growth of unsecured loans. It is also likely to limit the spread of any such systemic risks in the banking sector on lending to NBFCs.