MUMBAI: India’s close ties between lenders would leave the banking system especially vulnerable to contagion in case of trouble at a single institution, the central bank warned in a report on Monday.

That means trouble at a single bank among the top five most connected lenders in India could lead to contagion that wipes out nearly 50 per cent of Tier I capital in the banking system under a severe stress scenario, the Reserve Bank of India (RBI) said in its semi-annual Financial Stability report.

“This underscores the importance of monitoring not just interconnectedness, but also the counterparties and magnitude of exposure involved in the connection,” the RBI said.

The RBI did not identify the top five banks used for its study. It said its stress tests involved conditions such as potential failure by a bank that is either a net lender, a net borrower, or both.

The RBI also used money markets as one of its variables for stress tests given banks frequently lend to each other in short-term maturities.

India’s non-banking financial firms (NBFC) also pose a risk to the banking system due to their close ties with banks, the RBI warned in the report. —Reuters

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