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Effects of Demonetization on NBFCs

Effects of Demonetization on NBFCs

Narendra Modi, the Prime Minister of India, announced demonetization of INR 500 and INR 1,000 notes from 8th November 2016. This means that both INR 500 and INR 1,000 notes will no longer be considered as a legal tender. This decision was taken to address issues related to corruption and black money. Demonetization is also expected to solve problems in regard to counterfeit notes and terrorism. Prime Minister Narendra Modi states that this will bring about a change in the economic system of the country and will also eliminate black money.

The move has indeed created a huge impact on numerous sectors. The lending industry, in particular, has witnessed a positive impact due to demonetization. The transition to a cashless economy has improved savings in financial assets, thereby benefitting Non-Banking Financial Companies (NBFCs), the backbone of lending.

Impact on NBFCs

  1. Housing finance

It is expected that interest rates for housing finance will continue to reduce. With a reduction in interest rates, the demand for loans will increase to a great extent. This will benefit wholesale borrowers like Non-Banking Finance Companies and Housing Finance Companies (HFCs). Even though NBFCs transacting in cash would be affected, experts believe that this will just be temporary. However, those NBFCs dealing through digital methods will not face any impact.

  • Loan availability

Numerous other types of finance like personal loans, commercial loans, and education loans will be impacted by demonetization. Entrepreneurs seeking to set up their own business may apply for a business loan easily and avail of lower interest rates. Aspiring individuals may begin setting up their own venture due to increased availability of loans.

  • Digitalization

Demonetization aims at reducing cash transactions and increasing the usage of digital modes. Through this move, banks and Non-Banking Financial Companies are encouraged to provide their services through the Internet. Lenders may, therefore, develop an online website portal that provides loan-related details. Further, loan seekers may also avail of a business loan online, which provides a great degree of convenience. Online lending companies too, greatly benefited from demonetization, as there was an increase in loan inquiries. NBFCs, however, have to become more cautious while lending and check the credibility of the borrowers thoroughly before providing loans.

  • Economic activity

The Reserve Bank of India (RBI) introduced a new regime of the Marginal Cost of Funds based Lending Rate (MCLR) last year. Under this system, financial institutions are required to change their interest rates periodically. Those NBFCs operating under the MCLR scheme are expected to further reduce their lending rates post demonetization, which will, in turn, boost economic activity in the medium term.

Demonetization has far reaching implications. Though initially there were some negative impacts for a relatively short period of time, the advantages are greater in the long term.