How is Financing Paradigm moving in India?
By: Amit Bhushan Date: 12th May 2016
What is being witnessed in Credit markets/banking is turmoil. The old sharks that may have fallen off the cliff being targeted by bank recovery personnel and being threaten for legal action. It's not that many of the sharks have never faced any legal action earlier and if fact it might be an easy game for most of them, however it is the media which is keeping the pressure on. What is perhaps much more interesting is the overall movement of the financing paradigm although the actual movement might still be very slow from the perspective of the ordinary people.
The signals of this movement is evident from the guidance about the prices of assets like houses or other real estate. The house prices over the last few years, hasn't witness the regular rise that was witnessed. There might be a few cases where these property prices may have fallen. While some people may be calling hoarse and trying to read as sign of recession with the argument that soon investors may stop to invest since they may not be able to get adequate returns. However their might be another dimension to this.
What is most likely case is the market is shifting from being driven by investors or more appropriately speculative investors to being driven by actual users or producers or consumers.What generally drives markets is speculative money whereby some "operators" are able to corner funds- may be from banks and other sources to invest in profitable opportunities where they expect asset values to go up in near future. Many a times this leads to a frenzy amongst a clutch of investors which leads to a fast rise in price of the asset. The actual users, producers or consumers are then made to pay a steep price for the same so that he may get a piece in the cake. This may actually reduce the number of users, consumers and producers who are able to make use of the asset (due to price tag) and benefit from the value. This may actually lead to quite a few non-performing loans as speculators may not really have an idea to extract true value from the asset.
The actual producers, consumers or user, when they have pitched the price a bit too high, may also not be able to fully recoup the value and pay back borrowers in such cases. Thus credit markets gives rise to speculation by making credit available only to select borrowers who are deemed to be much more credit worthy than others even if their competency to make the best use of the asset to deliver value may be suspect in comparison to other actors/players such as users, consumers or producers, if able to buy directly.With banks becoming a bit more circumspect, the race to reach out to actual users, producers or consumers of such assets may become a bit savvier.
One of the key questions here could be on how to enable the actual users, producers or consumers to be able to afford/buy such assets in a short span. This is because the banking/lending system is glued towards lending to speculative investors who are able to walk away with much of the credit supply. The actual users, producers and consumers suffer with a multitude of problems and have difficulty in accessing such credit. This is what has allowed the speculators to play their game whereby which they are able to connive with financers so that they can create a seller's market to extract "price" from these users, producer and consumers. So the first wave could be to improve upon the credit worthiness of such borrowers. While the government and agencies have pushed for credit ratings through various means, however in practice, the banks want much more than ratings.
What is perhaps required is credit insurance where banks can be free of default risk of such borrowers and can lend basis Credit Insurance. Take home loans for example. Most lending happens on Equated Monthly Instalment terms and generally to the salaried individuals. Quite a few of such people turn investors in the market to buy properties cheaply and sell at a higher price using borrowed leverage to make speculative profits. Generally the actual buyers of such homes are not able to access credit with as much ease as such salaried borrowers. Now with housing prices stagnating or declining, what this market is likely to see is potential lack of speculative buyers in the short cycle. This may put of developers and builders from taking up new projects.
However if some simultaneous effort is made to reach out to hitherto unbanked borrower so that he can buy the properties basis the property collateral itself, and pay bank the lender on somewhat more liberal terms than a fixed EMI (Equated Monthly Instalment). This may have potential to unlock a new set of buyers immediately and kick-start the realty sector. Such model could potentially be a financial lease cum sales model or credit insurance backed reducing overdraft loan that take care of protection of interest of lenders or investors in such cases. There can potentially be numerous such innovations were tweaking the loan repayment obligation in line with borrowers funds flow may do the trick, however might require Insurance companies to innovate alongside financers to come up with innovative offerings that cover the unbanked population with no access to credit from organized sector.
Such flexibility is resorted to by banks in case of large borrowers as a regular practice however small borrowers are generally pushed to standard lending products generally with a fixed repayment schedule as a matter of discipline. The idea here could be to push a discipline in business to save and repay loans and a predictability around business conduct and practice. However when the potential borrowers are unable to show a clear ability to comply with such terms, they are deemed unfit and excluded from borrowing. Such borrowers then have to then resort to very expensive borrowing from private lenders which eats away much of their hard earned money and keeps them in the vicious cycle whereby which they are cutting on tax obligation through opaque balance sheets and likes.What we may be witnessing now is somewhat more activated banks which might result in defaulters being slightly more fearful.
Some of them might be inclined to comply with their banker's directives subject to the strength of their political capital. Already a dearth of buyers is leading to cries that economic activity may be slowing down and making people susceptible as well as suspect. However, the intent to supply the funds/credit to actual users, consumers or producers, will still need more innovation both from the perspective of Financial Institutions as well as from the side of governance to bring forth supportive legislations.
This shall allow several of the actual users, producers and consumers to access credit markets and acquire ability to buy the assets that they can value. Usually in a market the value of asset should move in line with market movements (as per forces of demand and supply) rather than movement of finance. This move may also allow the defaulting borrowers to exit at a better valuation since competition for their asset might toughen. It may be noted that Home loans are just taken as an example so that people can easily relate otherwise the analogy can apply to any asset. We already have a large cross-section of economic activity not being covered by a formal and affordable credit supply.
Quite a chunk of such businesses might be easily convinced to establish proper billing and tax compliance processes, subject to banks readiness to supply them with cheap working capital financing or other forms of credit. Thus such financial innovation paves way for higher revenues to government as well as expansion of economic activity and that too right at the bottom of the pyramid which is also a huge vote bank, but has been left in the lurch.
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