Growth Factor: A question of credit delivery

Fourth, a facet of credit offtake is the link with bank deposits, which is reflective of financial savings (household, corporate and central and state governments).

Increasing credit delivery has been a significant pillar of counter-pandemic stimulus. This will continue during this year, despite prospects of higher fiscal spending by the Centre and potentially some states. Hence, understanding drivers of credit growth in FY22 and beyond is important. There are too many uncertainties relating, inter alia, to growth recovery, vaccination rollouts, business confidence, private sector capex, working capital cycles, consumer spending, etc. Phasing of monetary policy normalisation will affect surplus liquidity and hence market (and bank) interest rates, also shaping credit demand from banks.

The first part of this article looks at recent trends in credit offtake. Thereafter, these are contextualised in historical trends, with the aim of assessing bank credit growth scenarios.

Our current credit growth forecast for FY22 is 5.5-6% YoY, a shade lower than the 6.2% growth averaged in the final fortnights of FY21; and as of early July, 6.2%. Non-food bank credit offtake in FY21 was Rs 5.7 lakh crore (lc) compared to Rs 5.9 lc in FY20. However, even adjusting for the usual, seasonal shrinking of credit in the first quarter, the increment in Q1FY22 had been much deeper than in Q1FY21. By sectors, retail lending accounted for almost 60% of total credit in FY21, agriculture for about a third, with credit to services and industry lagging far behind. The prime source of credit to industry had been the middle rung of corporates, with large corporates having actually paid down their outstanding loans. This can be explained with large corporates having access to corporate bond markets, where the surplus liquidity post RBI stimulus led infusions drove interest rates lower, through which they likely refinanced existing bank loans. Mid-level companies would have had tighter access.

A question often asked is when bank credit growth might cross 10%. Co-movements of credit and nominal GDP growths over two decades suggest a credit supercycle, peaking at 37% in FY2006, before trending down to 5% in FY21 (which appears a floor, since nominal GDP growth was -3%). It will be difficult to cross double digits in the next couple of years, since the base of outstanding credit has become large. Bank credit in early July 2021 was Rs 108 lc. In FY98, this was just Rs 3 lc, rising to Rs 15 lc in FY2006, Rs 64 lc in FY15 (10%). There was a move up to 13% during FY17-19, a period coinciding with strong retail credit growth, as well as on-lending to NBFCs, fuelled by a rise in liquidity.

Second, the contribution of the four broad segments to credit growth (noted above) since FY12 gives insights to credit growth slowdown, from the demand side. Retail loan growth has generally held up, while credit to industry had led the decline till FY17, reflecting the slowdown in large-ticket investment and infrastructure projects. The swings in services credit had been in large part by lending to NBFCs, and, although volatile, to a segment classified as ‘other services’ (logistics, warehousing, similar services).

Third is the supply of funds available to borrowers. Non-bank sources, both domestic and offshore, had progressively scaled up. From roughly two-thirds of total funds flows in the decades of the early 2000s, the share of bank credit is down to half and even less. Access to cheaper domestic and offshore funds had probably led to repayments of existing loans, across banks. The large jumps in corporate bond and commercial paper (CP) issuances stand out, in addition to disbursement by HFCs. Market sources of funds depend to a large extent on the interest rate cycle and liquidity conditions. Going forward, it is likely that the ratio of bank credit to nominal GDP will hold in the near 50% range, before beginning to come down, as nominal GDP growth outpaces credit.

Fourth, a facet of credit offtake is the link with bank deposits, which is reflective of financial savings (household, corporate and central and state governments). Over FY07-16, there has been deployment of deposits by central and state government bonds (SLR securities), partially due to progressive reduction of statutory pre-emption of financial savings. This trend in rising Credit/Deposit (C/D) ratio accelerated during FY17-19, with various underlying drivers mentioned above. But this has trended down, in large measure due to disruptions of the pandemic and the consequent monetary and fiscal policy response, and is likely to gradually revert to pre-pandemic normal levels in the coming years, boosting credit growth.

Depending on the strength of economic recovery, credit growth might increase to 7-8% in FY23. This depends, first, on the calibration and timing of RBI’s normalisation of its monetary policy, with a gradual withdrawal of liquidity and a rise in market interest rates. This is likely to progressively shift some demand for loans to banks, with bank credit becoming interest rate competitive. In the near term, demand for short-term working capital credit, due both to high input and intermediates prices and elongated receivables cycles, will be strong, also due to a shift from market-based CPs. A fundamental factor will be a revival of the private capex cycle. This may take some time, with capacity utilisation in many industries still low (but rising). Government capex will play a significant role, with infrastructure project spending likely to crowd in private sector participation, gradually percolating to downstream industries.

The author is executive vice-president and chief economist, Axis Bank. Views are personal