The credit system forms the foundation of the expansion of an economy. It creates money according to the value added in the market with the expectation of the future growth of businesses. But the unregulated & unwarranted credit flow can destroy the same economy. Similarly, in the early 2000s when the US capital & financial market was matching the pace of massive infrastructure development, unchecked credit flow cost the US around $20 trillion in the form of the collapse of Lehman Brothers Investment bank.
Similarly, India, coupled with digital & financial growth is marching towards new heights of development. The growing economic activities, young population, and increasing purchasing power have exponentially increased the credit flow in the market.
Unregulated credit flow
India’s booming market and increasing purchasing power capacity are working as oxygen for the credit market. With the growth of financial technology, the credit flow has further become easy and financial companies are investing heavily in the fina-tech market.
With the help of promoter banks, many app-based credit startups are flowing credits like candies. With the simple PAN-Aadhaar- Bank data of an individual, the (CIBIL) Credit Information Bureau (India) Limited calculates the credit score, and accordingly they ‘distribute the candies’.
In a way, without any mortgage, the app-based financial companies are issuing credit to individuals. In India, more than 50 crore PAN cards have been issued and more than 30 crore PAN is linked with Aadhaar.
If even 1 crore out of 30 crores PAN-Aadhaar linked users who took loans for about 15K defaulted on the credit then it will create an NPAs of a whopping 15000 crores. Which is sufficient to affect the balance sheet of not only the promoter banks or NBFCs (Non-Banking Financial Companies) but the whole financial system of the country. Already fighting the previous NPAs (Non- Performing Assets), banks will be creating a credit-induced financial crisis and once again bringing stagnation-like situations.
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When credit becomes a bane
And the same credit can become a bane for any economy. When the credit flows in the market are unregulated, it creates an economic bubble of money flow without any value creation. The credit flow must be in the ratio of the asset and liabilities. In the system of credit management, the credit flow must rationalize with the capacity of lenders to pay back.
The 2008 financial crisis was the result of Lehman Brothers’ ignorance of risk-management strategies yet the bank continued to lend money without the check on mortgage-backed securities and when the bubble of actual value creation blasted, the whole credit market fell apart like a house of cards.
When the greed for profitability dominated the common acumen of credit management, a financial crisis like 2008 emerged and drowned the whole banking system. Moreover, the trust on which the money flows in the market destroys and gives birth to stagflation-like situations. So from the condition when the market is booming, it brings down the market with stagnation.
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Credit is a boon for economic development
Credit is the transaction between lenders and creditors, where creditors with the promise of a certain interest lend some money to lenders. And, lenders with the future growth of business invest that lend money with the hope that the return of an investment will be such that it can multiply his business and fulfill the lending terms.
In a way, it creates value in the economy with the future prospects of businesses. The regulated and managed credit flow multiplies business and helps in the overall growth of an economy.
Credit and economic growth, complementing each other, are booming Indian markets. With the growth of various instruments of capital and credit growth, new enterprises are reaching new heights of development and creating new avenues of employment.
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The Reserve Bank of India mandates the traditional banks to reserve some money for the emergency liquidation in the form of CRR (Cash Reserve Ratio) and SLR (Statutory Liquidity Ratio). It keeps the banking sector ready to face any unfavorable conditions in the financial sector.
But the recent rise of fin-tech has some sort of created difficulties in controlling and regulating the finance market. This is also because NBFCs are large in numbers and supervision & regulation become difficult. Also, in most cases, the promoters of these credit-based apps are the NBFCs. RBI needs to create a formal framework of regulations against such companies who are distributing credit like candies before it becomes too late and accumulates unbearable NPAs further disrupting the growth trajectory of India.
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