RBI rolls back risk weights to free up capital, spur growth

The Reserve Bank of India (RBI) has eased rules for banks to offer micro loans and also lend to shadow banks and microfinance institutions in a bid to free up liquidity in the banking system.

The banking regulator lowered the capital that lenders are required to set aside against such loans, thereby making it easier for banks to use such freed up capital for lending, which could in turn improve credit flow and boost growth.

The Reserve Bank restored the risk weights on bank loans to shadow banks, effective 1 April, to the levels before they were hiked in November 2023.

RBI had then raised the risk weights on lenders’ exposure to shadow banks by 25 percentage points to 125%, over and above the risk weight associated with the given external rating.

The RBI too the decision then to dissuade banks from lending to shadow banks and micro lenders as unsecured loans had risen 25% in October 2023 over the previous year.

Now, however, a major slowdown in bank credit to shadow banks this fiscal, tight liquidity, and the need to prioritize credit flow to the underserved forced RBI to roll back the increase in risk weights.

The Reserve Bank also restored the risk weights on micro lenders and borrowers with immediate effect.

The central bank’s latest push for growth comes less than a month after it lowered the policy rate by 25 basis points to 6.25% on 7 February. One basis point is one-hundredth of a percentage point.

Average banking system liquidity is estimated to be in a deficit of ₹1.5 trillion as of 20 February, slightly better than ₹2 trillion in January 2025, ratings agency CareEdge Ratings said in a note.

This month, the Reserve Bank has actively managed liquidity conditions through various measures, including announcing a dollar/rupee buy/sell swap auction of $10 billion (about Rs90,000 crore) for a longer tenor of three years, to be held on 28 February.

In the past month, RBI also introduced Rs1 trillion into the financial system through open market operations, and injected about Rs1.8 trillion through long-term variable rate reverse repos (VRRs) and Rs 40,000 crore through foreign exchange swaps, not including the auction on 28 February, the note said.

These interventions were supplementary to the daily VRR auctions that the RBI conducts to maintain favorable liquidity conditions.

While RBI measures have helped improve liquidity, “overall conditions remain tight” and further measures are needed to ease liquidity and support the transmission of RBI rate cuts, the CareEdge Ratings note said.