Private credit fragility: India can reduce default risks by closing data gaps in India’s broader credit market

In India, private credit has made significant strides in the last few years. Recently, its assets were estimated to be upwards of ₹2.5 trillion. That’s barely 1% of India’s banking book. However, one may expect private credit to increase in importance, provided today’s limited regulatory elbow room for banks continues and private lenders do not commit a self-goal in terms of underwriting or governance lapses.

There have been tremors in the US private credit market, with Fitch Ratings reporting a default rate of 9.2% in the private credit portfolio it monitors. The Indian portfolio of private credit, though, has shown no signs of stress in public yet.

A chink in the amour: India’s corporate credit information ecosystem, despite being information rich, remains fragmented on account of uneven access to credit information. This information asymmetry constrains the flow of credit to corporate borrowers from diverse institutional lenders.

Banks have the best access to credit information. To start with, they have full access to the Reserve Bank of India’s (RBI) Central Repository of Information on Large Credits (CRILC) as well as credit bureau data on corporate exposures.

Non-banking financial companies (NBFCs) have limited access to RBI’s CRILC, but can access credit bureau data. Insurance companies have access to credit bureau information, but not the CRILC. Mutual funds (MFs) and alternate investment funds (AIFs) have no access to either.

MFs and insurance companies have limited appetite for investing in debt rated below AA. One possible reason is the challenge of assessing the credit risk of lower-rated or unlisted companies without access to credit bureau data or the CRILC.

Private credit players in India operate either as NBFCs regulated by RBI or AIFs under the oversight of the the Securities and Exchange Board of India (Sebi). Unlike MFs, they tend to lend to lower-rated or even unlisted borrowers in real estate, infrastructure and others.

While all lenders can access borrowers’ financial statements, bank accounts and projections, they also need unbiased credit information from the CRILC and credit bureau database for a fuller picture. Given the constraints on information availability, private credit providers are at a relative disadvantage in underwriting loans.

While the issue of uneven access to data is not new, the rise and growth of private credit could, in a worst-case scenario, expose this chink as a systemic vulnerability.

Private credit borrowers tend to have a significant overlap with bank borrowers, at least at the business group or promoter level. The banking industry does not have an updated view of its corporate borrowers’ performance on their private-credit loans.

As far as vulnerabilities go, this creates an opportunity for the ‘soft evergreening’ of debt by means of short-term liquidity loans taken from private lenders to tide over bank credit payments. If this happens at scale, a critical early warning signal may be missed .

A stitch in time: It is of national importance to ensure a steady flow of credit and not repeat the credit blowup of the previous decade.

Thus, enhancements in India’s credit information ecosystem may need to be taken into consideration. Inter-regulatory coordination forums such as the Financial Stability and Development Council may be best placed to coordinate these changes.

Three changes may be required:

Full access for all regulated institutional lenders: MFs and private credit operators could be given access to credit bureau information. In addition to these two groups of entities, insurance companies, pension funds and NBFCs could be given suitable access to the CRILC. Further, all these entities should report their credit and debt investment portfolios to credit bureaus and the CRILC.

Expand the fields of reporting: Reporting should go beyond type of trade-lines, exposures and delinquency status. Technical defaults due to loan-covenant breaches could be reported. Details of loan characteristics (including any principal or interest moratorium) and payment norms (including pay-in-kind options) need to be reported and disseminated.

A regulatory nudge for better use of data: Some of the best users of data leverage credit bureau and CRILC information to create sophisticated systems that can predict defaults or develop early warning systems. But others use credit bureau and CRILC data just for tick-box routines and to tag defaults. Likewise for transaction data.

Some entities such as credit rating agencies , while having regulatory access to credit bureau data, show limited adoption. In short, while data access may be offered, it could take a regulatory nudge for all lenders to develop systems that make good use of it.

For a safe and well-informed credit market: A corporate borrower’s choice of debt source is often driven by the speed of credit disbursement, how it is structured for relevance to its unique situation and how competitively priced it is.

There is space for banks, NBFCs, private credit players, et al, to co-exist and compete in a way that leads the market towards credit excellence. But asymmetric credit information could lower the overall quality of loans if weak borrowers are not assessed as such by all lenders.

Lightly regulated lenders may see an opportunity in not disclosing to the system defaults by borrowers in the belief that they could charge a higher rate of interest to cover the extra risk. This disposition fails to appreciate the fact that above a certain risk threshold, no price is sufficient. It’s a formula for credit fragility.

The author is a risk management and AI consultant, and a member of the visiting faculty, IIM Ahmedabad and IIM Calcutta.