RBI Considers Increasing Risk Weights On Unsecured Personal Loans

The Reserve Bank of India (RBI) is considering increasing the risk weights on unsecured personal loans and outstanding credit card balances in order to control the rapid growth in these segments and mitigate the potential risks of bad loans. 

Bankers have expressed concerns that while the current demand for unsecured personal loans and credit cards is strong, there is a fear that non-performing assets could emerge during times of economic distress, negatively impacting banks. As a result, they anticipate regulatory action from the central bank to adjust risk weights.

Higher risk weights would restrict banks' lending capacity in the unsecured personal loan and credit card segments, as it would increase the capital charge. Presently, the risk weight for unsecured personal loans is 100 per cent, and for outstanding credit card balances, it is 125 per cent. Risk weights are percentage factors that account for the credit risk associated with different asset types.

RBI data shows that unsecured personal loans recorded a year-on-year growth of 24 per cent as of 21 April 2023, compared to 18.2 per cent growth in the same period of the previous year. Similarly, credit card outstanding balances grew by 29.7 per cent year-on-year as of 21 April 2023, compared to 20.1 per cent growth in the corresponding period of the previous year.

A senior official from a leading private sector bank explained to a leading media house that if an unsecured personal loan turns into a non-performing asset, the loss is immediately 100 per cent. Banks typically make a provision of 25 per cent in the first year of non-servicing, followed by full provisioning in the second year. Some banks even provision 100 per cent in the first year for unsecured loans.

The official noted that increasing the risk weight would consume capital, requiring higher capital allocation for such loans. Consequently, the ability to lend further would be moderated.

According to a recent report by Care Ratings, unsecured loans (including other personal loans, credit card outstanding balances, and consumer durables) experienced robust year-on-year growth of 25 per cent in April 2023. This growth can be attributed to credit granularisation, digitalisation of loans, preference for premium consumer products, and the credit push by banks. 

Also, unsecured loans' share in the personal loans segment increased to 32.9 per cent as of 21 April 2023, compared to 31.4 per cent a year ago. After housing loans, unsecured loans constitute the second-largest component in the personal loans segment. Given the strong demand for various retail loan categories, the ratings agency expects robust retail credit growth in FY24.