Development Financial Institutions (DFIs) in India

A Development Financial Institution, or DFI, is a special kind of lender that gives long-term loans for big projects like factories, highways, power plants and housing. These projects take 10 to 30 years to pay back. A normal bank cannot easily give such long loans because its money comes from people's deposits, which can be withdrawn at any time. A DFI fills this gap by raising long-term money and lending it for nation-building projects.

Why do DFIs exist?

Think of a bank like a shop that borrows from customers for a short time. If it lends that money for 25 years, and depositors suddenly want their money back, the bank is in trouble. This problem is called an asset-liability mismatch. DFIs avoid it because they raise money for long periods, for example through long-term bonds or government support. In a young economy with little private capital, DFIs were the main way to fund industry.

Where did they come from?

After Independence, India built a set of DFIs, one for each major need:

• Industrial Finance Corporation of India (IFCI), 1948: India's first DFI, for industrial loans.
• Industrial Credit and Investment Corporation of India (ICICI), 1955: for private industry.
• Industrial Development Bank of India (IDBI), 1964: created by the IDBI Act, 1964, and started on 1 July 1964 as a fully owned subsidiary of the RBI. Its ownership was moved to the Government of India in 1976. It became the main "apex" institution to fund and coordinate industrial finance.
• NABARD (1982) for agriculture and rural development, EXIM Bank (1982) for exports and imports, National Housing Bank (1988) for housing, and SIDBI (1990) for small industries.

The decline after 1991

After the 1991 reforms, DFIs lost their cheap government funds and had to borrow at market rates. Banks and the stock market became new sources of long-term money. An RBI working group led by S.H. Khan (1998) pushed the idea of universal banking, where one institution does both normal banking and long-term lending. So the big DFIs turned into banks:

• ICICI merged into ICICI Bank in 2002, becoming one of India's first universal banks.
• IDBI became a company after the IDBI Act was repealed in 2003, and became IDBI Bank Ltd in 2004. It later merged its commercial bank arm into itself.

What happened to IDBI Bank after that?

IDBI Bank built up large bad loans in the 2010s. In January 2019, LIC bought a 51% controlling stake for about ₹21,624 crore. Because LIC is a government company but not "the government", the RBI classified IDBI Bank as a private sector bank for regulatory purposes from 21 January 2019.

How does a DFI work?

A DFI usually:

1. Raises long-term money through government capital, long-term bonds, and loans from bodies like the World Bank.
2. Studies a project in detail, because it will be locked in for decades.
3. Gives long loans, sometimes at lower rates, or helps through refinance (lending to other banks so they can lend).
4. Often also gives advice and helps projects attract other lenders.

The new DFI: NaBFID

To fund India's huge infrastructure needs, Parliament passed the National Bank for Financing Infrastructure and Development (NaBFID) Act, 2021. It got Presidential assent on 28 March 2021 and came into force on 19 April 2021. NaBFID started with ₹20,000 crore of paid-up capital, fully owned by the government, plus a ₹5,000 crore grant.

Who regulates DFIs today?

The RBI regulates five All India Financial Institutions (AIFIs): NABARD, SIDBI, EXIM Bank, NHB and NaBFID. They are set up under their own Acts of Parliament and follow RBI rules on capital and risk.

Commonly confused concepts

• DFI vs commercial bank: A commercial bank takes deposits from the public and mostly gives short and medium-term loans. A DFI usually does not take public deposits and gives long-term project loans.
• DFI vs NBFC: A Non-Banking Financial Company (NBFC) is a private company registered under the Companies Act that lends money. A DFI is usually created by its own special law with a development goal.
• IDBI (old) vs IDBI Bank (now): The old IDBI was a government DFI under its own Act. IDBI Bank today is a company that does normal banking, and is treated as a private sector bank since 2019.
• NaBFID vs India Infrastructure Finance Company Ltd (IIFCL): IIFCL (2006) is a government company that lends to infrastructure. NaBFID is a statutory DFI made by its own 2021 Act.

Issues, criticism and the way forward

• Bad loans: Long-term infrastructure loans are risky. Many earlier DFIs suffered big losses when projects failed.
• Government dependence: DFIs often need repeated government support, which burdens the budget.
• Slow lending: New DFIs take time to build skills and a loan book.
• Way forward: Experts suggest strong professional management, a healthy bond market so DFIs can raise long-term money cheaply, and sharing risk with private lenders.

Concepts to Know

• Asset-liability mismatch: When a lender's loans (assets) are for a much longer time than its borrowings (liabilities), so it may run short of cash.
• Universal banking: One institution offering all financial services: deposits, short and long loans, investment banking and insurance.
• Refinance: When a bigger institution lends to banks so that they can give more loans to a target group, like farmers or small businesses.
• Bond: A paper an institution sells to borrow money, promising to pay interest and return the money later.