Review of Shadow Banks

Context: Shadow banks must review how they lend money as the Reserve Bank of India (RBI) strengthens norms and squeezes their credit lines.

RBI’s Report Highlights Risks in NBFCs

Recently, the RBI increased the risk weights for Non-bank financial companies (NBFCs) (and Banks) by 25 percentage points to 125% on retail loans.
- Risk Weights: Banks need to set aside capital for every loan.
The RBI’s ‘Financial Stability Report‘ of June 2023 drew attention to NBFCs’ personal loan growth: It rose year-on-year by 31.3 percent while the industry grew slower by 12.7 percent hinting towards issue asset quality.

The shadow banking system consists of lenders, brokers, and other credit intermediaries outside traditional regulated banking.

Shadow banks

Shadow banking is generally unregulated and not subject to the same risk, liquidity, and capital restrictions as traditional banks.
The term ‘shadow bank’ was coined by Paul McCulley in 2007.
Examples of shadow lenders include Special Purpose Entities, Non-Banking Financial Companies (NBFCs), Hedge Funds, etc.
In India, the crisis of the NBFCs that was triggered by the liquidity problems of IL&FS in 2018, has brought back attention to the shadow banking sector.

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Source: Business Standard