Post the sub-prime crisis and the subsequent recession of 2008-09, it has been fashionable for us Indians to pat ourselves on our back and state that we do not have the kind of debt levels that the US does. Therefore, we believe, that we should be far less vulnerable to bubbles & financial crises. Financial institutions in India are not allowed to indulge in complicated structures or off-balance sheet derivatives the way the US and UK did.
Indians culturally and historically have had an aversion to borrowing money. We are a saver nation, with the savings rate at nearly 34% according to the latest Economic Survey. A 2010 report on Debt & De-leveraging by the McKinsey Global Institute reinforces this belief, projecting total debt to GDP for India (across all 4 sectors - government, corporates, banks, consumers) at 130% of GDP; A far cry from the US at nearly 300% or Japan at a whopping 460%.
While this makes us all feel nice, there are a number of points worth noting.
Firstly, it is not correct to directly compare a developing economy's debt levels with those of a developed economy. A developing economy makes the transition to a developed economy through investment growth and capacity creation. These investments have to be financed. Such financing will happen through a mixture of both debt and equity, but both represent the creation of liabilities. Thus, a growing economy will generally tend to increase its debt levels as it aims to make the transition to a mature economy. In that sense, debt to GDP alone is a poor indicator of desirable leverage levels.
The second, and far more important point in my opinion, is the question of how much debt in India is outside the formal financial system. If one thinks of how much financing in India takes place informally, the numbers can be mind-boggling.
The biggest contributor to informal debt (for want of a better word), of course, is black money. Every sector in India, particularly the "softer" ones which either do not require heavy bank lending or which involve a lot of corruption in smooth functioning, has a significant component of black money. Black money financing happens by wealthy individuals, criminals, businessmen, politicians - the list is endless. Certain sectors such as real estate and education are particularly amenable to black money. I am not sure whether one can put a number to the amount of black money lending, but intuitively it would be fairly high. Further, black debt contributes to white GDP, but does not get counted in the debt to GDP ratio.Clearly, then, the debt to GDP ratio is understated.
Apart from black money, there are several channels of informal lending. Moneylenders in both villages and cities lend to a wide section of people in need of financing, at exorbitant rates. The reason they exist is because the formal financial system is unable to service such people for one reason or the other - cost, documentation, risk-taking capacity, distribution and so on.
In addition to moneylenders, there are other avenues of informal credit. Much of the FMCG & unorganized retail industries, for example, work on informal credit. It's as much a trade finance issue as it is of marketing and distribution.
Going further, smaller linkages are too many to enumerate. Think about the maids in your home, who perpetually borrow the odd 2000-3000 rupees. Or the taxi driver, who's taken an informal loan from the taxi fleet owner and has to pay back by driving it.
I do not mean to say that leverage in India is on the same scale as the western world. But it is clear that reported figures of debt do not paint a complete picture because the extent of what is getting missed is quite large. Once we have a measure of such debt, we can try to draw some inferences as to how sustainable the debt levels in India really are.
Indians culturally and historically have had an aversion to borrowing money. We are a saver nation, with the savings rate at nearly 34% according to the latest Economic Survey. A 2010 report on Debt & De-leveraging by the McKinsey Global Institute reinforces this belief, projecting total debt to GDP for India (across all 4 sectors - government, corporates, banks, consumers) at 130% of GDP; A far cry from the US at nearly 300% or Japan at a whopping 460%.
While this makes us all feel nice, there are a number of points worth noting.
Firstly, it is not correct to directly compare a developing economy's debt levels with those of a developed economy. A developing economy makes the transition to a developed economy through investment growth and capacity creation. These investments have to be financed. Such financing will happen through a mixture of both debt and equity, but both represent the creation of liabilities. Thus, a growing economy will generally tend to increase its debt levels as it aims to make the transition to a mature economy. In that sense, debt to GDP alone is a poor indicator of desirable leverage levels.
The second, and far more important point in my opinion, is the question of how much debt in India is outside the formal financial system. If one thinks of how much financing in India takes place informally, the numbers can be mind-boggling.
The biggest contributor to informal debt (for want of a better word), of course, is black money. Every sector in India, particularly the "softer" ones which either do not require heavy bank lending or which involve a lot of corruption in smooth functioning, has a significant component of black money. Black money financing happens by wealthy individuals, criminals, businessmen, politicians - the list is endless. Certain sectors such as real estate and education are particularly amenable to black money. I am not sure whether one can put a number to the amount of black money lending, but intuitively it would be fairly high. Further, black debt contributes to white GDP, but does not get counted in the debt to GDP ratio.Clearly, then, the debt to GDP ratio is understated.
Apart from black money, there are several channels of informal lending. Moneylenders in both villages and cities lend to a wide section of people in need of financing, at exorbitant rates. The reason they exist is because the formal financial system is unable to service such people for one reason or the other - cost, documentation, risk-taking capacity, distribution and so on.
In addition to moneylenders, there are other avenues of informal credit. Much of the FMCG & unorganized retail industries, for example, work on informal credit. It's as much a trade finance issue as it is of marketing and distribution.
Going further, smaller linkages are too many to enumerate. Think about the maids in your home, who perpetually borrow the odd 2000-3000 rupees. Or the taxi driver, who's taken an informal loan from the taxi fleet owner and has to pay back by driving it.
I do not mean to say that leverage in India is on the same scale as the western world. But it is clear that reported figures of debt do not paint a complete picture because the extent of what is getting missed is quite large. Once we have a measure of such debt, we can try to draw some inferences as to how sustainable the debt levels in India really are.
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