The lending sector in India has felt the strong influence of digital transformation, which can be credited to the surge in internet usage and heightened customer demands.Thank you for reading this post, don't forget to subscribe!
Non-Banking Financial Companies (NBFCs) play a crucial part in this emerging lending environment and were responsible for 55% of the loans disbursed through various channels in the year 2020.
However, there are potential hazards associated with digital borrowing for NBFCs and it is imperative to embrace specific risk reduction approaches.
Technology lies at the heart of the Indian financial industry, steering a notable shift from offline to digital avenues. Commencing with online banking, financial technology has progressed to encompass online transactions, account initiation, and ultimately culminated in the emergence of digital borrowing. The lending business in India has been significantly impacted by digitalization, attributable to the increased internet penetration and elevated customer expectations.
The swift proliferation of digitalization in the Indian lending landscape, along with the expansion of diverse fintech entities and lending models, has propelled a nearly 12-fold surge in digital loans by the culmination of 2020.
NBFCs play a pivotal role in this emerging credit ecosystem and constituted 55% of the loans disbursed through various channels in 2020. Driven by fintech NBFCs, digital borrowing encompasses services ranging from personal and business loans to vehicle financing, catering to both individuals and Micro, Small, and Medium Enterprises (MSMEs) as well as diverse customer segments encompassing the younger generation, the underprivileged, and salaried customers.
Digital borrowing has emerged as a popular financial alternative in recent years owing to its convenience and accessibility for borrowers. Nonetheless, there are potential hazards associated with digital borrowing for NBFCs, necessitating the adoption of specific risk reduction strategies to uphold the stability and sustainability of their operations.
Evaluating Potential Hazards
The primary risk associated with any form of lending, including digital borrowing, is the risk of non-repayment of loan installments by borrowers.
To mitigate this risk, digital lenders need to meticulously assess the borrower’s creditworthiness by employing advanced data analytics and credit evaluation models to gauge the borrower’s credit history and repayment capacity, empowering digital lenders to make well-informed decisions and thereby reduce credit risk.
Given that digital borrowing hinges on internet software and online platforms, customers are also susceptible to cyber-attacks, technical glitches, or system failure, which can disrupt operations, lead to data loss, errors, and delays.
Digital lending firms should make substantial investments in IT infrastructure, staff training, cyber security measures, and disaster recovery operations, ensuring that security protocols are adhered to and constantly updated to minimize operational malfunctions.
Non-compliance with regulations pertaining to lending practices, anti-money laundering, customer data privacy, and Know Your Customer (KYC) norms can result in fines, legal complications, and damage to reputation. Consequently, digital lending entities need to stay abreast of regulatory changes and construct a robust compliance framework to help lenders steer clear of legal entanglements and establish credibility in the market.
Implementing Effective Risk Management Strategies
To manage digital credit risks, lenders need to adopt not just an intelligent but proactive risk management approach, encompassing the establishment of a robust credit evaluation model, investment in a resilient IT infrastructure, establishment of a regulatory compliance network, and ultimately diversification of the portfolio.
In addition, digital lenders can embrace cutting-edge encryption protocols, firewalls, routine security audits, and multi-factor authentication methods to safeguard against personal data breaches and unauthorized access, thereby fostering trust in digital borrowing networks and creating a conducive environment for the rapidly evolving realm of digital borrowing.
The Reserve Bank of India (RBI) has set up a working group on digital lending, which has put forth a strategy aimed at striking a balance between addressing the challenges stemming from digital borrowing and harnessing the benefits it can offer.
The group also proposed the establishment of a self-regulatory body to oversee lending channels, the creation of coordination committees to address issues in the digital lending space, inclusion of the Telecom Regulatory Authority of India (TRAI) as a member, and the development of technology standard infrastructure, along with recommendations to steer compliance efforts.
Hence, the RBI’s balanced approach will aid financial lenders in leveraging ongoing digital innovation while mitigating potential risks.
In essence, digital borrowing presents numerous advantages for both borrowers and lenders, albeit accompanied by certain challenges that can be mitigated through the implementation of an efficient and productive proactive risk management approach.
Hence, the adoption of risk reduction methods will facilitate the cultivation of a positive customer experience, thereby fueling the rapid expansion of a robust and comprehensive digital financial borrowing industry.