Banks’ Rising Reliance On Wholesale Funding Ups Liquidity Risks & MSMEs Borrowing Cost

Mumbai, Jan 21 (KNN) Reserve Bank of India Deputy Governor M Rajeshwar Rao has expressed concern over banks' increasing reliance on wholesale funding to meet credit demand, warning that it could indicate underlying structural liquidity challenges. 
 
Speaking at the Mint Annual BFSI Summit & Awards on January 17, 2024, Rao emphasised that institutions dependent on wholesale funding face elevated risks during periods of economic stress.
 
Liquidity stress could lead to hardening of interest rates for Micro, Small and Medium Enterprises (MSMEs).
 
Highlighting the recent surge in short-term funding through Certificates of Deposit (CDs) to levels not seen since 2012, Rao cautioned that such dependence could adversely impact banks' net interest margins and profitability, particularly in deteriorating market conditions. 
 
He noted particular regulatory concern regarding banks whose deposit growth has failed to keep pace with loan growth, forcing them to rely more heavily on wholesale funding for credit disbursement.
 
The Deputy Governor also addressed challenges facing non-banking financial companies (NBFCs), noting their increased reliance on commercial papers and non-convertible debentures, which grew by 26.2 percent and 16.2 percent respectively in FY24. 
 
He warned about additional currency risks for NBFCs accessing international markets, recommending the integration of forex hedging into their asset-liability management frameworks.
 
To strengthen financial resilience, Rao urged both banks and NBFCs to enhance their deposit stability modeling and develop sophisticated stress-testing methodologies. 
 
He emphasised the importance of establishing formal contingency funding plans while cautioning against over-reliance on the central bank's lender of last resort function, stating that it should not be viewed as a routine funding mechanism. 
 
The Deputy Governor concluded by emphasising that this safety net exists to protect the entire financial system through prudent use of public funds, rather than individual institutions.
 
(KNN Bureau)