Representative image of savings.
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Industrial and business growth are the key drivers of any economy, including India’s. Foster this growth, investment is essential. Industrial progress not only determines economic status but also paves the way for national development. To foster such a growth, investment is critical. A look at the histories of industrial leaders reveals a common thread: they often started with limited resources and gradually built their empires.
Starting a business requires an initial infusion of funds referred to as capital. Sustaining growth and scaling new heights demand a consistent flow of funds. Entrepreneurs typically turn to financial institutions or banks for assistance. Another method of mobilising funds is through public deposits.
In the late 1990s, numerous Non-Banking Finance Companies (NBFCs) emerged in India, often backed by industrial houses. These NBFCs channelled investments into their parent companies, leveraging their brand value to attract public deposits. These deposits, usually for tenures of 12 to 36 months, offered interest rates 4-6% higher than those of RBI-regulated banks. However, such deposits were unsecured liabilities. During downturns, such as regulatory changes or global market slumps, many NBFCs struggled to meet their repayment obligations.
In their early stages, NBFCs managed public deposit schemes with caution, investing in assets like two-wheelers, four-wheelers, and commercial vehicles. However, as their operations scaled, investments shifted to speculative ventures. While these ventures initially yielded high returns, stock market downturns often led to significant losses. This left many NBFCs unable to honour their commitments to depositors.
All investments carry inherent risks, with higher returns often associated with greater risks. For many NBFCs, misuse of funds and speculative investments led to disastrous outcomes. Companies that invested in their parent firms, primarily in manufacturing, fared better than those heavily reliant on volatile stock markets.
NBFCs were initially intended to complement banks, particularly in providing large industrial loans. Over time, some evolved into private banks, like Kotak Mahindra Bank, while others collapsed due to poor risk management, high-risk strategies, and inadequate regulation.
The Reserve Bank of India responded by introducing stricter regulations for deposit-collecting NBFCs. However, financial scams persist, often involving unregulated entities operating outside RBI oversight.
To bypass stringent registration processes, many individuals establish finance companies under various guises. These companies operate discretely, often within close-knit communities, attracting investors with promises of high returns. These unregulated schemes primarily targeted individuals with unaccounted cash, offering a risky alternative to regulated options.
These companies adopted aggressive growth strategies by engaging in high-risk lending, such as financing real estate and infrastructure projects or speculating in the stock market. While potentially lucrative, these investments were highly volatile. When markets declined, financial losses mounted, leading to defaults.
The appeal of these schemes lies in their cash-based operations and lack of scrutiny. Individuals who receive their wages or remuneration in cash, combined with a desire for higher returns through elevated interest rates, often fall prey to these schemes. They perceive opening an account with commercial banks as cumbersome and fear disclosure due to the requirement of filling out KYC forms.
Many of these individuals are migrants and lack permanent identification documents, such as a PAN card or residential proof like an Aadhaar card, to establish their identity. As a result, they are more inclined to opt for these schemes over regulated ones.
Investing money is different from saving money. Saving involves setting money aside in safe, low-interest-paying accounts so that it is readily available when needed. On the other hand, investing focuses on creating wealth over time to meet future financial goals. It is always advisable to save or invest money in regulated deposit schemes.
The public should be aware that the RBI has introduced guidelines that are beneficial for bank account holders. In addition to bank deposits, individuals can invest in mutual funds and government bonds. Depositing money in regulated schemes is safer, involves less risk, and provides tax benefits. Learn more; one can reach out to commercial banks for guidance.
(The writer is an entrepreneur and a qualified corporate director)