If the rising trend of resident households' leverage continues, against the falling household savings rate, medium-to-long-term growth could suffer.
Savings and, in turn, investments are often considered a sine qua non of economic growth. Several studies have shown a positive cause-and-effect relation between domestic savings and economic growth. In fact, in advanced economies, high domestic savings is an essential source of financing domestic investment. However, the same cannot be said about emerging market economies (EMEs) . To finance investments, EMEs often use foreign savings. Although there is nothing wrong in EMEs using foreign savings for raising domestic investment, this may lead to the widening of the CAD and a subsequent debt trap, if not managed and used appropriately.
Globally, the savings rate declined to 24.5% in 2016, from the 2006 peak of 26.6%. Barring high-income countries, all other country groups (as per income categories) are still experiencing a decline in their savings rates. For high-income countries, it increased to 22.1% in 2016 from 19.8% in 2009. Both India and China, which are high-saving economies, experienced a decline. China’s declined to 47% in 2017 from 52.3% in 2008, while India’s fell to 32.1% in 2017 from 36.6% in 2007.
In the early 2000s, in India, there was a structural shift in both savings and investments. The shift led to higher economic growth from FY04. India’s savings rate increased to 29% in FY04 from 25.9% in FY03, and its investment rate increased to 31.2% in FY05 from 25.3% in FY04. The country’s savings and investment rates rapidly increased until FY08 before the 2008 global financial crisis. Its average GDP growth was 8.8% for the period FY04–FY08.The level is the best five-year average GDP growth in Indian economic history since 1950-51. During the period, the increase in the overall savings rate was largely driven by the public sector, whose rate increased to 4.99% in FY08, from -0.28% in FY03. After the 2008 global financial crisis, both a stimulus and salary revision led to a decline in the public sector’s savings rate to 0.16% in FY10. The household sector has traditionally remained the major contributor to savings in India. Its contribution to the total savings peaked at 93.2% in FY02. However, it declined to 60.9% in FY08 due to a rise in public sector savings. Household savings intermediated by banks and other non-banking financial entities are a major source of investment funding for India’s economy.
The definition of household has undergone a change after the revision of the base year of national accounts to FY12 from FY05. Now, all quasi corporates, which prepare accounts similar to the way prepared by private registered/ listed corporates, are a part of private financial/non-financial corporations. Previously, there were considered a part of household. Furthermore, most unregistered MSMEs form a part of the household sector. As a result, the household savings rate until FY11 is strictly not comparable with the level post FY11.
The contribution of the household sector to nominal GVA declined to 43.2% in FY17 from 45.5% in FY12. In FY17, 94.8% nominal GVA of agriculture, 27.4% of the industrial sector and 34.4% of the services sector originated from the household sector. During FY12–FY17, the proportion of the household sector in the nominal value added of agriculture remained largely unchanged, while the share of the services sector declined 150bps. However, the decline was steep for the industrial sector at 440bps. During FY12–FY17, the household sector’s nominal GVA growth of agriculture, industry and services was lower than that of private corporations. Thus, nominal GVA growth of the household sector (10.1%) was lower than that of private corporations (13.7%).
Demonetisation and the implementation of GST has resulted in more and more private companies getting registered. The average monthly number of private companies that were registered between January 2015 and November 2016 was 7,068 compared with 9,007 during December 2016-June 2018 and 10,379 over April 2018-June 2018. Thus, as more private firms undergo registration with the ministry of corporate affairs, the household sector’s GVA growth and savings in FY18, and thereafter, is likely to further decline.
During FY12–FY17, the household sector accounted for 60.93% of the total savings in the Indian economy, followed by private corporations (35%) and the public sector (4.07%). Slower nominal GVA growth in the household sector is reflected in the growth of household savings, up 3.7% during the period. The savings growth rate of the household sector was the lowest amongst the three broad categories. The savings of private corporations rose 17.4% and that of the public sector increased 12.9% during FY12–FY17. Slow nominal GVA growth and formalisation of unregistered/informal companies led to a decline in the household savings rate to 16.3% in FY17 from 23.6% in FY12. However, the household sector still remains the largest contributor to savings in India. The overall savings rate of India declined to 30% in FY17 from 34.6% in FY12.
Tighter financial conditions (increasing median working capital days) have been one of the key reasons behind the slowdown in the household sector’s growth. Although there is no regulatory bias against MSMEs for accessing credit, the size of their balance sheets and creditworthiness became an even bigger issue after the 2008 global financial crisis. The proportion of MSMEs in the total non-food credit declined to 6.1% in April-June 2018 from 11.2% in FY09. In fact, credit to MSMEs contracted in FY16 and FY17 and was nearly static in FY18, before growing at a paltry 1.1% rate in April-June 2018. The more worrisome trend is the increasing leverage of the household sector. At a time when the banking system is struggling with asset quality, resident households have emerged as the preferred choice for banks. As on June 22, 2018, outstanding personal loans were 25.3% of the total bank credit. Outstanding personal loans, along with credit to MSMEs, represented 31.5% of the total bank credit. Personal loans/GDP increased to 11.4% by the end of FY18 from 9.0% in FY12.
The rising leverage of resident households is not alarming yet. However, if the trend continues, particularly against the backdrop of the falling savings rate of the household sector, it can potentially turn into a major challenge and inhibit growth in the medium-to-long term.
Devendra Kumar Pant, Chief economist and senior director (public finance), India Ratings and Research. Views are personal