Risk weight cut on loans bad for banks

Mumbai: The Reserve Bank's (RBI) decision to reduce risk weighting on consumer loans is credit negative as it will encourage banks to increase their exposure to this loan segment at a time when credit risks are already increasing, said a report by Moody's Investors Service.

On September 12, the Reserve Bank of India reduced risk weighting on consumer loans such as personal loans to 100 per cent from 125 per cent. "The reduction is credit negative as it will encourage banks to increase their exposure to this loan segment at a time when credit risks are already increasing from a slowing economy," it said.

"The reduction of risk weights is credit negative for banks because it will lower the capital requirements and thus the loss absorbing buffer on these loans. It will also encourage banks to further increase their exposure to this cyclical segment at a time when the macroeconomy is slowing."

As per Moody's, the recent data has pointed to a sharp deceleration in economic and consumption growth in the first quarter of fiscal 2020, when real GDP growth slipped to a multi-year low of 5 per cent, within which private consumption grew only 3.1 per cent. This raises the risk that asset risk on unseasoned personal loans will rise as a result of potential deterioration in household financial conditions.