NBFCs gear up to seek licence as RBI set to tweak norms on small banks

The Reserve Bank of India’s (RBI) plan to permit the proposed small banks to operate nationwide,albeit in a limited scale, can be the real game changer for India to push its agenda of financial inclusion. Perhaps, in a much more meaningful way than what full service banks could do to promote financial access to poor.

As it appears now, most non-banking finance companies (NBFCs), especially those who operate as micro finance institutions (MFIs), will apply for small banking licence. The RBI is likely to issue final norms for small banks and payments banks by this month-end.

Among the ones planning to apply are Bangalore-based MFI, Ujjivan Financial Services Ltd, Kerala-based gold loan lenders, Muthoot Finance and Manappuram Finance.

Samit Ghosh, founder and managing director of Ujjivan, confirmed to Firstbiz that his firm will apply for smaller bank licence.

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“Yes, very happy that our voices were heard (by RBI). When the time is appropriate, hope to apply (to become a small bank),” said Ghosh.

As on September, Ujjivan has a loan book of Rs 2,419 crore, operates in 24 states and has over 17 lakh customers. Started in 2005, Ujjivan has so far disbursed loans worth Rs 8,688 crore.

Both Muthoot and Manappuram, whose main business is lending against gold ornaments and has operations nationwide, had earlier expressed interest inbecoming small bank. Over the years, both these firms have been trying to diversify their portfolios from just offering gold loans.

A total of 25 companies had applied for full service bank permits last year of which the RBI chose only two - IDFC and Bandhan. At that time the RBI had highlighted its intention to begin differentiated banking regime in India or banks set up to undertake specific banking activities.

Permitting small banks would, in that sense, kick off the differentiated banking regime in India, first outlined in a discussion paper released by the RBI in August 2013. Also, the small bank is a concept close to the heart of RBI governor Raghuram Rajan, which he had outlined in his 2008 financial sector reforms report titled A Hundred Small Steps.

Originally, the RBI was planning to restrict smaller banks to a few adjacent districts.

In an opinion piece published on August 20, Firstbiz had highlighted that this would be a wrong step from the RBI given the experience on Local Area Banks (LABs).

In 1996-97, the RBI had created LABs following an announcement by then finance minister P Chidambaram to push banking services to rural areas of the country, where the waves of economic liberalisation were yet to reach.

The mandate of these banks was to operate in a few adjacent districts and provide banking services in that limited geography, in a small scale. The RBI issued licences to six LABs but theexperiment failed as two soon became defunct.

The remaining four aren’t doing too well. The core issue with LABs was their concentration risk itself. If something goes wrong in those few districts that they operate in, that impacts repayment and credit culture, the whole business suffers, threatening the survival of the entity.

In the case of smaller banks too, the concentration risk of operating in small contagious districts would have played spoiled the opportunity to bring millions of unbanked people into the formal banking system.

Rajan has done well correcting this part.In fact, given the RBI’s focus on financial inclusion, smaller banks with local knowledge and operational experience can do much more to financially include the unbanked than full service banks, given the fact that smaller banks will be forced to tap customers at the bottom of the pyramid, given the restrictions on ticket size.