There has been some concern expressed on the declining savings of households in India. While the data available is up to FY23, the disturbing trend is the sharp fall in the ratio of net financial assets to GDP to a five-year low. Prima facie, it appears the situation may not have been reversed in FY24. What exactly are the issues here?
There are two aspects to the growth in net financial assets of households as individuals are both savers and borrowers. As savers they are the dominant contributor to national savings. The latter has picked up pace in the last couple of years. There is a growing belief that living on leverage is no longer a taboo. In fact, it is a preferred choice to move up the spending ladder and has been beneficial for the consumer goods segment.
The graphic gives information on the ratios of net financial assets, financial assets, and financial liabilities of households to GDP in the last five years. Net financial assets are defined as financial assets minus financial liabilities.
There are two concerns here. The first is on the ratio of financial assets to GDP, which is coming down; and the second is the sharp spike in the ratio of financial liabilities. A combination of the two raises a red flag. FY21 can be taken to be an aberration as this was the Covid year, which saw a fall in economic activity and avoidance of any kind of consumption leading to significant increase in savings. Hence the ratio of financial assets crossed 15%. The ratio of financial liabilities did not come down but inched up marginally with home loans providing the traction.
What can be a worry is that the ratio of financial assets has come down from 12% in FY19 to 10.9% in FY23, which means people are saving less. This can be attributed mainly to the fact that households were spending more on consumption and at the cost of savings. Real consumption increased by just around 5% in these five years and slowed down further to 3% in FY24. Further, given that inflation has been high at 6.2% in FY21, and 5.5% and 6.7% in the subsequent years, there was a tendency for the households to pay higher prices for a limited basket of goods. This led to compromises on savings. Further, the pent-up demand for consumption also contributed to a dip in savings.
Also, interest rates in banking were low leading to near-negative real interest rates which could have been a deterrent while market-savvy people had moved to the stock market. But the fact that savings have gone down is serious and has to be reversed.
On the liabilities side, there has been a sharp increase in FY23 from 3.8% of GDP to 5.8%. This is a result of higher borrowings mainly from banks and non-banking finance companies. In fact, the financial system has been pushing retail loans at a time when corporate demand for funds was weak due to low investment. This began around 2015 when asset quality review was undertaken as corporate non-performing assets had gone up sharply. Banks directed their efforts to the retail side where the probability of delinquency was low in a market typified by a growing aspirational class.
Three segments have witnessed a sharp increase over the last five years. The first is home loans, where the government has given a boost in the affordable segment. The second is auto loans, which have picked up momentum as the demand for automobiles (cars and two-wheelers) has increased. The third part is unsecured loans, which has grown at a quick pace and is used for consumption purposes, drawing the regulator’s attention. Last year, the capital requirements were enhanced for these loans. There has also been an increase in the use of credit cards, although not very significant in terms of share in total credit.
There is a strong argument that if households are borrowing to buy a house or car, there is an increase in investment, too, as it is linked to a fixed asset that is good for the economy. Unsecured loans, along with credit cards, have been considered to be financing options for consumption and need to be kept in check.
There are two divergent views here. While borrowing for consuming isn’t normally looked upon as prudent even for the government, it is considered risky for households who may not necessarily have the financial strength to service the same. However, if one looks at developed countries, growth in the ’80s and ’90s was accelerated due to consumerism that was supported by leverage. Hence shopping for groceries and paying by credit cards does add to aggregate demand, and has strong backward linkages with the relevant industries and can spur investment. Therefore, consumption with leverage is not really a bad thing within limits.
It can be argued that leverage-based consumption has increased the financial liabilities of households and led to also savings being lowered over time. As long as the savings are adequate to finance investment, there would be no major problem for the economy. However, once investment picks up and is not backed up by domestic savings, there would be greater dependence on foreign capital. This finally gets reflected also in the macroeconomic concept of current account deficit, which is the difference between the two and has a different set of challenges.
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