Hari Sankaran, Managing Director, IL&FS (Infrastructure Leasing and Financial Services Ltd.), gestures during an interview with Reuters at the company's headquarters in Mumbai March 25, 2015. REUTERS/Shailesh Andrade

MUMBAI (Reuters Breakingviews) - India has slammed the brakes on a liquidity crisis. New Delhi’s move on Monday to take charge of IL&FS brings short-term relief: the infrastructure lender had started to default on $13 billion of debt, causing panic. Yet rising interest rates will bring more pain, and the country’s shadow banks are still vulnerable.

The government is bringing in a new board led by renowned banker Uday Kotak, days after shareholders failed to definitively support a rescue plan. There were few palatable options: a series of credit rating downgrades of IL&FS’ once top-rated paper had made it hard to refinance short-term borrowings used to fund long term projects.

The details of how to fund IL&FS’ liabilities still need to be worked out, but India has likely averted a Lehman-like moment that could have led to a devastating growth slowdown. The intervention should ease fears of heavy redemptions from mutual funds, which have grown to account for over one-third of non-bank funding. In turn, that will provide relief to the corporate bond market.

Yet even with the rescue, the days of plentiful cash that have helped non-bank lenders trade at a premium to ordinary ones are over. Rising U.S. interest rates and high oil prices, mean India’s money market rates, up around two percent in the last twelve months, could still increase significantly. The Reserve Bank of India is expected to hike the cost of borrowing again on Friday.

That spells trouble for other shadow banks, especially those extending longer tenure loans. Of course there are still high-quality names with good asset-liability management, like the $42 billion Housing Development Finance Corporation valued at 4 times its forward book value. But relying on rating agencies to discern good from bad may not help, after misjudgements at IL&FS.

Tight liquidity poses another problem too. New Delhi says stress in IL&FS was “camouflaged by misrepresentation of facts”. Saurabh Mukherjea of Marcellus Investment Managers warns that problematic behaviour comes to light during tough times, and a number of companies that have benefited from easy money may yet be found wanting.

An immediate crisis may have been dodged, but more defaults and scandal seem inevitable.