CASE 6: EFFECTS OF REGULATIONS ON NBFCs

Non-bank financial companies (NBFCs)

Non-bank financial companies (NBFCs) are financial institutions that provide banking services without meeting the legal definition of a bank, i.e. one that does not hold a banking license. These institutions are not allowed to take deposits from the public. Nonetheless, all operations of these institutions are still exercised under bank regulation.[1] However this depends on the jurisdiction, as in some jurisdictions, such as New Zealand, any company can do the business of banking, and there are no banking licenses issued.
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1 Services provided 2 Regulation 3 Classification 4 See also 5 References 6 External links

Services provided
NBFCs offer all sorts of banking services, such as loans and credit facilities, private education funding, retirement planning, trading in money markets, underwriting stocks and shares, TFCs and other obligations. These institutions also provide wealth management such as managing portfolios of stocks and shares, discounting services e.g. discounting of instruments and advice on merger and acquisition activities. The number of non-banking financial companies has expanded greatly in the last several years as venture capital companies, retail and industrial companies have entered the lending business. Non-bank institutions also frequently support investments in property and prepare feasibility, market or industry studies for companies. However they are typically not allowed to take deposits from the general public and have to find other means of funding their operations such as issuing debt instruments.

Regulation
For European NCs the Payment Services Directive (PSD) is a regulatory initiative from the European Commission to regulate payment services and payment service providers throughout the European Union (EU) and European Economic Area (EEA). The PSD describes which type of organisations can provide payment services in Europe (credit institutions (i.e. banks) and certain authorities (e.g. Central Banks, government bodies), Electronic Money Institutions (EMI), and also creates the new category of Payment Institutions). Organisations that are not credit institutions or EMI, can apply for an authorisation as Payment Institution in any EU

country of their URL choice (where they are established) and then passport their payment services into other Member States across the EU.nbfc is basically for those people who want better service in short period of time .

Classification
Depending upon their nature of activities, non- banking finance companies can be classified into the following categories:
1. 2. 3. 4. 5. 6. 7. 8. Development finance institutions Leasing companies Investment companies Moradabad companies House finance companies Venture capital companies Discount & guarantee houses Corporate development companies

NBFC is one sector where there is a lot of capital flowing, there are also operations such as promoter financing and loans against shares which require closer scrutiny. In 2008 there were some NBFCs, which faced liquidity issues. So the regulations are more of a rationalization of the industry. The idea was to keep some barriers and to avoid any systemic risk. The objective was to look at systemic risk and to look at issues of regulatory arbitrage and bring a little uniformity to this sector. There are no regulations that govern the exposure of NBFCs to either capital market or real estate. Hence, there was a need to bring in additional risk caveats in place. This will make a huge difference to lending to the stock market and real estate but will help the long-term health of the NBFC sector. However, there is a possibility that the margin funding requirements may have a negative impact on the NBFCs. Life will be very hard for NBFCs, mainly in the sectors of securities, margin funding as well as onward lending to real estate, or the sectors which are professed as sensitive by RBI. The margins will also be impacted as a result of the provisioning requirements.

There hasnt been any crisis in NBFC sector, but the sector has become very large and some of the NBFC companies are on the rise at very fast pace. The proactive measures will help the long-term health of the NBFC sector e.g. increasing the Tier I capital adequacy ratio, the provisioning and income recognition norms being brought in line with banks, etc. The Income Tax Regulations will also be accordingly amended and so deduction in income tax will be provided. All these actions will see to it that the sector comes forward stronger. But some of the rules relating to margin funding e.g. NBFC are to be funded like SEBIs regulation for margin funding are not feasible as this facility has not been used by any broker. As per the new norm, the asset size requirement should be of 50 Crore. This will not lead to NBFCs going out of business. Moreover, smaller NBFCs do not pose any systemic risk, so there is no need to bring them under the regulatory domain. The cost of funding will not go up significantly, but there will be some margin pressure initially. But in the long run it will prove beneficial for the NBFCs.

Deregulation of Savings Bank Deposit Interest Rate : A Discussion Paper

Introduction As a part of financial sector reforms, the Reserve Bank has deregulated interest rates on deposits, other than savings bank deposits. The interest rate on savings bank deposits has remained unchanged at 3.5 per cent per annum since March 1, 2003. Keeping in view progressive deregulation of interest rates, it was proposed in the Second Quarter Review of Monetary Policy 2010-11 announced on November 2, 2010 to prepare a Discussion Paper to delineate the pros and cons of deregulating the savings bank deposits interest rate. It was proposed to place a Discussion Paper on the Reserve Banks website for feedback from general public. Accordingly, this Discussion Paper is an attempt to deal with pros and consof deregulating savings deposit interest rate and take on board the suggestions of various stakeholders for either maintaining the status quo or deregulating the savings deposit interest rate. 2. The Discussion Paper is organised as follows. Section II provides a historical account of deregulation of deposit interest rates in India. Section III analyses the trend in savings bank deposits in India. Section IV sketches out the international experiences with regard to the impact of deregulation of savings products in select countries. This is followed by a detailed analysis of pros and cons of deregulation of savings deposit interest rate in India in Section V. Section VI presents an analytical perspective on some of the concerns raised by banks relating to deregulation of savings deposit interest rates. Section VII sums up the discussion and sets out some specific issues for feedback from general public.

Deregulation of Deposit Interest Rates in India A Historical Account The process of deregulation of deposit interest rates had begun in the 1980s. In April 1985, banks were allowed to set interest rates for maturities between 15 days and up to 1 year, subject to a ceiling of 8 per cent. It was expected

that with reasonable rates of interest on maturities, banks would be able to achieve a better distribution of term deposits rather than highly skewed distribution around longer maturities at relatively higher costs. However, when a few banks started offering the ceiling rate of 8 per cent even for maturities of 15 days, other banks followed suit without regard to consideration of profitability and set a single rate of 8 per cent for maturities starting from 15 days and up to one year. The consequence was a shift of deposits from current accounts and, to a lesser extent, from savings accounts to 15-day deposits. As a result of price war among banks, the freedom to set interest rates subject to a ceiling was withdrawn in May 1985. The process of deregulation resumed in April 1992 when the existing maturity-wise prescriptions were replaced by a single ceiling rate of 13 per cent for all deposits above 46 days. The ceiling rate was brought down to 10 per cent in November 1994, but was raised to 12 per cent in April 1995. Banks were allowed to fix the interest rates on deposits with maturity of over 2 years in October 1995, which was further relaxed to maturity of over 1 year in July 1996. The ceiling rate for deposits of 30 days up to 1 year was linked to the Bank Rate less 200 basis points in April 1997. In October 1997, deposit rates were fully deregulated by removing the linkage to the Bank Rate. Consequently, the Reserve Bank gave the freedom to commercial banks to fix their own interest rates on domestic term deposits of various maturities with the prior approval of their respective Board of Directors/Asset Liability Management Committee (ALCO). Banks were permitted to determine their own penal interest rates for premature withdrawal of domestic term deposits and the restriction on banks that they must offer the same rate on deposits of the same maturity irrespective of the size of deposits was removed in respect of deposits of ` 15 lakh and above in April 1998. Now banks have complete freedom in fixing their domestic deposit rates, except interest rate on savings deposits, which continues to be regulated and is currently stipulated at 3.5 per cent. 4. The issue of deregulation of savings deposit interest rate has arisen from time to time. The Annual Policy Statement of 2002-03 had weighed the option of deregulation of interest rate on savings bank deposit accounts but the time was not considered opportune considering that a large portion of such deposits was held by households in semi-urban and rural areas. It was, however, argued that deregulation would facilitate better asset-liability management for banks and competitive pricing to benefit the holders of savings accounts. 5. The issue was again revisited in the Annual Policy Statement for the year 2006-07. In this context, the Indian Banks Association (IBA) while making out a case for deregulation of savings bank deposit rates in the long run, suggested for status quo in 2006. The Reserve Bank on a review of the then prevailing monetary and interest rate conditions, including a careful assessment of the suggestions received from the IBA, considered it appropriate to maintain the status quo, although the Policy stated that in principle, deregulation of interest rates is essential for product innovation and price discovery in the long run (Para 109, Annual Policy Statement, 2006-07). 6. In pursuance of the announcement made in the Annual Policy Statement for the year 2009-10, the Reserve Bank advised scheduled commercial banks to pay interest on savings bank accounts on a daily product basis with effect from April 1, 2010. Prior to the introduction of a daily product method, the interest on savings deposit account was calculated based on the minimum balance maintained in the account between the 10th day and the last day of each calendar month and credited to the depositors account only when the interest due was at least ` 1/- or more. After the change, the effective interest rate on savings bank deposits increased, thereby benefitting the depositors.