RBI releases a circular that restricts banks and NBFCs from investing in certain funds. Primary reason: to stop the "evergreening" of loans. But there's more than meets the eye..

Link: https://boringmoney.in/p/rbi-wants-banks-to-ditch-some-funds

Summary:

1. RBI released a circular towards the end of last month which prohibited banks, NBFCs and other financial institutions from lending to companies that have received investments from funds where the banks are themselves investors.

2. The reason for this is that RBI feels "evergreening" of loans is a big problem. A borrower is unable to repay their loan, but instead of the bank recognising the loan as a bad loan, the bank (or NBFC, etc) indirectly gives them money via an alternative investment fund (AIF).

3. On the face of it, RBI disallowing banks from making these investments is a good measure. But once you scratch the surface there are a lot of problems.

4. For instance, the lending and the investing arm of a bank are supposed to be separated out. How would the investing arm know about the decisions of the lending arm?

5. Another problem is that AIFs which have bank investors will be wary about investing in companies that have borrowed from their bank investors. This is bad! It will stop them from making the best decisions for their investors.