Rising Consumer Credit: Economic Implications

GS 3 – ECONOMY

Background

The Reserve Bank of India’s (RBI) Financial Stability Report 2024 highlights a surge in household debt, with a shift toward more creditworthy borrowers. However, the growing trend of consumer loans raises concerns about broader macroeconomic stability.

Household Debt Trends

• Debt-to-GDP Ratio: Increased from 36.6% in June 2021 to 42.9% in June 2024.
• Declining Asset Ownership: Household assets, as a percentage of GDP, fell from 110.4% in June 2021 to 108.3% in March 2024, indicating a rise in borrowing for consumption rather than investment in assets.
• Global Comparison: While India’s household debt remains lower than other emerging economies, it is rising at a faster pace.

Borrowing Patterns and Borrower Profiles

• Expanding Borrower Base: Debt growth is driven by an increase in borrowers rather than rising individual debt levels.
• Creditworthiness Shift: Nearly two-thirds of total debt is held by prime and super-prime borrowers, indicating a preference for lower-risk lending.
• Decline in Sub-Prime Borrowers: Risky lending has reduced, contributing to healthier credit expansion.

Rise in Consumption-Based Borrowing

• Shift in Loan Usage: More households are borrowing for consumption rather than for assets like housing, vehicles, or education.
• Borrower Type and Spending: Super-prime borrowers allocate 64% of their loans toward asset creation, while sub-prime borrowers use nearly half for consumption.
• Unsecured Credit Growth: Personal loans and credit card usage have increased, particularly among lower-income groups.

Financial Vulnerability of Low-Income Households

• Rising Loan Defaults: Higher delinquency rates in personal and credit card debt from September 2023 to September 2024 indicate financial distress.
• Interlinked Loan Risks: Defaults on unsecured loans (credit cards, personal loans) may trigger the classification of housing and vehicle loans as non-performing assets (NPAs), worsening financial instability.
• Macroeconomic Impact: The rising debt burden on lower-income households poses risks to overall financial stability.

Economic Growth and the Multiplier Effect

• Role of the Multiplier: Low-income groups have a higher spending propensity, boosting economic output when their incomes increase.
• Debt-Servicing Burden: Higher loan repayments reduce disposable income, leading to lower consumption and a weaker multiplier effect.
• Policy Challenge: If borrowing replaces real income growth, measures like income tax cuts may have limited effectiveness in stimulating demand.

Financial Innovations and Associated Risks

• Expanded Credit Access: Digital lending and credit card innovations have made borrowing easier.
• Over-Indebtedness Risks: Increased debt exposure may push financially vulnerable households toward instability.

Policy Considerations

• Sustainable Credit Growth: Balancing credit expansion while managing risks from unsecured lending.
• Macroeconomic Oversight: Ensuring that debt-driven growth does not undermine financial stability and long-term economic health.