USED VEHICLE FINANCE IN INDIA: CONTRACT ENFORCEMENT AND COLLATERALIZATION

Principal Investigators: Rajkamal Iyer (MIT), Manuel Adelino (Duke), Antoinette Schoar (MIT)
Research Team: John Victor Arun Kumar, Pratibha Joshi
LEAD Centre: Small Enterprise Finance Centre (SEFC)
Focus Area: SME Finance
Project Geography: Tamil Nadu
Partner: SME Initiative IPA, IGC
Status: On-going

Background:

The purpose of this study is to design and test a new loan product which will allow SMEs to use a credit line when bidding for used vehicles. The study also aims to test different ways of encouraging the development of local resale markets for assets and to improve the functioning of these markets to achieve the most efficient re-allocation of assets. Due to the informal and disconnected nature of used asset markets, SME dealers from the semi-formal sector dominate them. These SME dealers have limited access to finance, and providing a credit facility will enable these market agents improve pricing, volume and liquidity of these markets. Eventually this will result in better allocation of assets. In this study, we focus on one specific sector – the market for used private and commercial vehicles in India.

The resale markets for used or repossessed assets in emerging markets such as India are usually very fragmented, illiquid and sometimes non existent. The inability of banks to sell repossessed assets in this market can have severe detrimental effects for bank lending operations. At first, it can lead to substantial losses for banks when they need to seize assets from non-performing borrowers. But second and more importantly the inability of banks to achieve the full collateral value when they seize an asset will affect the size of the loans they are willing to give against a given piece of collateral. This effect is particularly severe for small businesses whose main source of credit is collateral backed loans.