IMF warns of risks in India's NBFC sector

New Delhi

The International Monetary Fund (IMF) has expressed concerns over financial stability risks in India due to the high exposure of Non-Banking Financial Companies (NBFCs) to the power and infrastructure sectors. The report warns that NBFCs are closely linked to banks, corporate bond markets, and mutual funds, which could escalate financial stress if vulnerabilities arise.

NBFCs' significant lending to the power sector, which faces ongoing structural challenges, increases the risk of financial instability. Any financial distress in these projects could impact banks and other financial institutions. The co-lending model, where banks and NBFCs jointly provide credit to priority sectors, further deepens financial interconnectedness and systemic risk.

The IMF suggests enhanced monitoring of NBFC lending patterns and stricter liquidity regulations, especially for those financing infrastructure projects. Unlike banks, NBFCs cannot accept demand deposits or access Reserve Bank of India (RBI) liquidity facilities, making them more vulnerable to market fluctuations. Additionally, India's corporate bond market remains underdeveloped, forcing NBFCs to depend on banks and mutual funds for funding, which has led to past liquidity crises.

Despite these challenges, India has advanced in financial inclusion, with nearly 80% of adults having financial accounts. The country has also emerged as a key player in equity options trading. However, state-owned NBFCs hold a significant share of total NBFC assets and are exempt from certain regulatory limits. The IMF recommends aligning regulations for both public and private NBFCs to mitigate risks and maintain financial stability.