Introduction:

The Reserve Bank of India’s (RBI) latest Financial Stability Report (FSR) 2024 has drawn attention to the changing landscape of household debt in India. While there are positive signs, such as an increase in the number of prime borrowers and a shift towards healthier credit growth, a closer look at the data reveals some underlying macroeconomic concerns. One of the most significant red flags is the increasing use of credit for consumption rather than asset creation. This shift raises important questions about financial stability, economic growth, and the resilience of lower-income households in India.

The Growth of Household Debt in India

• Household debt in India has been gradually increasing over the past few years. In June 2021, the household debt-to-GDP ratio stood at 36.6%. By March 2024, it had risen to 41%, and as of June 2024, it reached 42.9%.
• Compared to most emerging market economies, India’s household debt is still relatively low, but the upward trend warrants attention.
• A key concern is the purpose for which this debt is being taken. Ideally, households borrow to invest in assets such as homes, vehicles, and education.
• However, data indicates a worrying decline in household assets as a percentage of GDP, from 110.4% in June 2021 to 108.3% by March 2024. This suggests that an increasing proportion of borrowing is being used for consumption rather than investment.
• While consumer spending is an important driver of economic growth, excessive borrowing for consumption—especially among lower-income households—can create financial vulnerabilities.

Are Borrowers in a Healthy Position?

• Despite the rise in household debt, the RBI highlights several factors that indicate a relatively healthy credit environment.
• One of the most notable trends is that the increase in borrowing is driven by a rise in the number of borrowers rather than rising individual indebtedness.
• Additionally, the share of sub-prime borrowers—those with lower creditworthiness—has been declining. Today, nearly two-thirds of all debt belongs to prime and super-prime borrowers, who have strong credit scores and repayment capabilities.
• Furthermore, the increase in per capita debt is largely being driven by super-prime borrowers, suggesting that those with the highest creditworthiness are taking on more debt—primarily for asset creation. This shift towards higher-quality borrowers suggests that credit growth is more stable and less risky than in previous years.
• However, the aggregate numbers hide a crucial detail: borrowing for consumption purposes is disproportionately concentrated among lower-income households, who are also the most vulnerable to economic shocks.
• While wealthier households use debt for purchasing homes and other assets, poorer households are increasingly relying on unsecured loans such as credit card debt for their daily expenses.

The Shift Towards Consumption Loans

• One of the most troubling aspects of the current credit boom is the rise in consumption loans. While 64% of loans taken by super-prime borrowers are used for asset creation, nearly half of the loans taken by sub-prime borrowers are for consumption.
• Households earning less than ₹5 lakh per year are taking on increasing amounts of unsecured loans, primarily through credit cards and personal loans.

This trend raises several concerns:

1. Financial Stress for Lower-Income Households:
   Many lower-income borrowers have multiple forms of debt, including housing and vehicle loans. If they default on an unsecured loan—such as a credit card or personal loan—it could lead to their secured loans (such as home loans) also being classified as non-performing assets (NPAs) by lenders. This creates a ripple effect, increasing financial risk across the banking system.
2. Rising Delinquencies in Unsecured Loans:
   Data from the RBI suggests that personal and credit card loan delinquencies have been increasing since September 2023. This suggests that many lower-income households are struggling to meet their repayment obligations. While the share of sub-prime borrowers is decreasing, those who remain in the system are experiencing greater financial stress.
3. The Role of Financial Innovation: The increasing availability of credit cards, Buy Now Pay Later (BNPL) schemes, and other financial instruments has made it easier for households to take on debt. While this improves financial inclusion, it also raises the risk of over-indebtedness, particularly among those with unstable incomes.

Macroeconomic Implications of Rising Consumer Credit

The rise in consumption-driven borrowing has broader macroeconomic implications, particularly in terms of economic growth and financial stability.

1. Impact on the Income Multiplier

• One of the most critical aspects of economic growth is the multiplier effect—how much additional output is generated for every unit of investment.
• Lower-income households tend to have a higher multiplier effect because they spend a larger portion of their income on goods and services.
• In contrast, wealthier households have a lower multiplier effect because a significant portion of their income goes into savings and investments rather than consumption.
• However, when lower-income households are burdened with debt, a large portion of their income goes towards debt servicing rather than consumption. This weakens the multiplier effect, potentially leading to lower overall economic growth.

2. The Sustainability of Growth

• A key question is whether the rise in consumer borrowing reflects genuine economic strength or underlying macroeconomic weaknesses.
• If households are borrowing due to rising income insecurity—such as job losses or stagnant wages—it suggests a fragile economy where people rely on credit to maintain their living standards.
• On the other hand, if borrowing is increasing because of greater access to credit due to financial innovations, it raises concerns about whether such debt-fueled consumption is sustainable in the long run.

3. Potential Policy Responses

Given these concerns, policymakers will need to strike a balance between encouraging healthy credit growth and preventing excessive consumer debt. Some possible policy interventions include:

• Stronger Regulations on Unsecured Lending: The RBI could introduce stricter guidelines for issuing personal loans and credit cards, particularly for lower-income borrowers, to prevent over-indebtedness.
• Financial Literacy Initiatives: Many consumers, particularly those in lower-income brackets, may not fully understand the implications of high-interest debt. Public awareness campaigns on responsible borrowing and financial planning could help mitigate risks.
• Targeted Support for Vulnerable Households: If rising consumer debt is a symptom of income insecurity, direct interventions such as wage support, social security benefits, or targeted tax relief for lower-income households could help reduce reliance on credit.

Conclusion: A Mixed Picture

The rise in household debt in India presents a complex picture. On one hand, the increase in borrowing among prime and super-prime borrowers suggests a healthy credit environment, where financially stable individuals are taking on debt primarily for asset creation. This is a positive sign for economic stability.

On the other hand, the growing reliance on credit for consumption—especially among lower-income households—raises concerns about financial stress and macroeconomic fragility. Rising delinquencies in unsecured loans indicate that some households may already be struggling to keep up with their debt obligations.

While financial innovations have made credit more accessible, they have also exposed vulnerable sections of society to higher financial risks. If left unchecked, the rise in consumer credit could weaken economic growth by reducing the income multiplier effect and increasing financial stress among lower-income groups.

Ultimately, policymakers must remain vigilant to ensure that credit growth supports economic development rather than leading to financial instability. A careful mix of regulatory oversight, financial education, and social security measures will be essential to ensuring that household borrowing remains sustainable in the years to come.