Sustaining growth needs higher savings

It is a truism that reduction in poverty needs higher economic growth, which can create jobs and incomes. India’s per-capita income at $3,000 dollars, or about Rs 2.4 lakh per annum, is the lowest among all G-20 countries. Compared to the two largest economies, it is respectively one-fifth, and one-twentieth of per-capita incomes of the US and China. To get to a reasonable development status, India’s national income must rise at 7-8% in real terms (i.e., after adjusting for inflation) every year for at least a couple of decades. This growth in national income must also be relatively evenly spread and not cause further inequality.

One of the most important requirements for high income growth is the national rate of savings. This is that part of the national income that is set aside for investing in the future. That investment goes toward building new factories, infrastructure or, more importantly, to strengthen education, research, innovation and entrepreneurship. India’s highest national savings rate of about 37% of GDP was attained in 2010-11. Currently, it is about 30% of GDP, a fall of 7%. This needs to be reversed.

Of the 30% aggregate savings, roughly 20% comes from households. That includes small and tiny businesses, often unincorporated and in the informal sector. Keep in mind that the aggregate savings of all households come from the relatively better off, i.e., rich people. Poor people cannot afford to have high savings. Their entire income goes to meet their consumption needs. When consumer items like food, milk, transportation, children’s education, and medicines become expensive, that eats into their income. If their (nominal) income is rising slower than the rate of inflation, then that further cuts into their savings.

India’s aggregate household savings has traditionally been divided half and half into financial and non-financial savings. The latter is the money put into buying real estate or gold. The former is that part of the savings which go toward bank deposits, mutual funds, bonds, pensions, and insurance. As the financial sector deepens, and the trust of the people in finance increases, they choose to park more of their savings away from gold and real estate.

Gold is seen as protection against inflation. India has the highest demand for gold in the world. Gold imports result in an outgo of precious foreign exchange. During 2021-22, gold imports cost the country $46 billion, which thankfully went down to $35 billion during 2022-23. But household savings continue to tilt toward non-financial savings, which must be reversed.

If people are buying less gold but more real estate, that is seen as confidence and building assets. However, it is still less productive than financial savings, which are intermediated by the banking system and capital markets, toward real investment like new factories and infrastructure. When financial savings go down, the supply of loanable funds go down, causing interest rates to go up. The lack of domestic financial savings can be made up by the inflow of foreign capital, either as equity or foreign loans. But the latter creates dollar-indebtedness for the country, which is not desirable.

Net financial savings of households is the net of their financial liabilities, which are basically loans. The net financial savings of households have fallen to 5.1% of GDP in 2022-23, which is the lowest in almost 50 years. This is alarming. It fell from 11.5% in 2020-21 to 7.2% in 2021-22, and to the present 5.1%.

During the same period, financial liabilities (which are usually roughly three-fourths of financial savings) have risen steeply. Households borrow from banks as well as non-banks.

If financial liabilities rise alongside financial savings, the net financial savings as a percentage of the GDP would remain roughly constant. But the fact that there has been a steep fall in the net financial savings, means financial liabilities have risen more sharply. Indeed, during July 2022 to July 2023, the financial liabilities of households rose from Rs 36 lakh crore to Rs 47 lakh crore. The previous year, too, there had been an increase of a whopping 76%.

And the borrowing spree is not from banks, who have been relatively prudent. Bank credit to personal loans, credit cards, housing and vehicles has risen. But the biggest increase has been from non-bank finance companies. The net credit of NBFCs to households rose from Rs 21,000 crore to Rs 2.4 lakh crore just in one year, i.e., from 2021-22 to 2022-23.

Now, you can imagine the impact of those pesky calls selling you personal loans on your mobile! Does this amount to loan pushing? Are the NBFCs taking on more risk than they should? Is a loan bubble building up in the NBFC sector, which can burst with a downturn in the economy?

Since inflation is running high, and interest rates are high, housing loans are under pressure. But since the Equated Monthly Installment (EMI) cannot be increased, the duration of the loan has been elongated by the lender. There are stories of some loan durations being extended to 40 years. How will these be fully repaid?

The fall in net financial savings is alarming, and there is no solace in saying that it simply reflects more willingness of households to take on personal and housing loans. The aggregate savings of the economy is also seven percentage points below its peak. A high savings rate is essential to sustain high growth. The falling savings rate is further compromised due to the voracious appetite of government-borrowing, both at the central and state levels. Almost the entire household financial savings gets pre-empted by the sovereign and sub-sovereign borrowing requirement. India now hopes to garner fresh dollar loans of around $20 billion into the sovereign debt market, thanks to India’s inclusion in the J P Morgan bond index.

But the need to reverse the fall in savings rate and net financial savings is dire. That also requires a lower and stable inflation rate and a tighter control of fiscal borrowing.

(The writer is a noted economist) (Syndicate: The Billion Press)