RBI’s regulatory arc for banking can be explained by weak animal spirits in the economy

The broader trend looks even more worrying. Sector-wise central bank data on gross bank credit deployment shows that in the year till 22 August, loans to industry had risen by only 6.5%, in contrast with 10.6% to services and 11.8% to retail borrowers. In response, RBI has tweaked its banking rules to nudge credit growth to a higher plane.

As promised earlier, it has issued guidelines that relax its regulation of bank-funded mergers and acquisitions, eased lending against shares and debt mutual funds, and also adjusted risk weights to free up some capital for non-bank finance companies (NBFCs) to lend more for infrastructure projects; this is also expected to increase bank credit to NBFCs.

These measures are consistent with the concern that good old credit for factory expansion is unlikely to pick up any time soon and it might thus be necessary to generate credit demand elsewhere.

The other worry is a palpable lack of entrepreneurial spirits in the Indian economy. In banking, this can perhaps be gauged by three recent acquisitions green-lit by RBI: Lakshmi Vilas Bank by Singapore-based DBS, Yes Bank by Sumitomo Mitsui Banking Corp and now RBL Bank by Dubai-based Emirates NDB.

In addition, RBI has allowed private equity to buy larger stakes than before in both private banks and NBFCs—such as Blackstone’s acquisition of almost 10% in Federal Bank worth ₹6,200 crore or Warburg Pincus’s stake of just under 10% in IDFC First Bank.

This openness to foreign capital marks a distinct pivot in RBI’s strategy, which had long focused on infusing private sector banks with domestic capital; it had also frowned on private equity owning more than 5% of a private bank. If RBI lets Blackstone nominate a director to Federal Bank’s board, it would mark another departure from its regulatory framework so far.

Admittedly, RBI is doing the best it can in a difficult situation. As a regulator, its remit is not restricted only to inflation control, but extends to fostering economic growth and ensuring systemic stability.

At a time of weak credit growth and retail loans brimming with default risks, India’s central bank is trying to create conducive conditions for a broad revival of credit demand and thereby keep threats to financial stability at bay.

The idea to welcome foreign capital in private banks also aligns with this. With local investors staying away from banking opportunities, RBI is relying on stable and deep sources of global capital to forestall any bank failure and potential knock-on effects across the financial sector.

Broadly, RBI’s latest package can also be read as a signal to markets that softer interest rates alone may not suffice to help the economy accelerate. With supply-side efforts by both fiscal and monetary authorities having done little thus far to lift India’s growth trajectory, the government has put a tax stimulus in play.

While this would be of aid in the near-term, to address deep deficiencies on the demand side, we need solutions that would put household incomes on an enduring incline that’s sharp enough to rouse those animal spirits.