Swaminomics: GDP is increasing but there is no benefit for low income people, understand why this is a matter of tension

Swaminathan S Anklesaria Iyer
A strange confusion is being seen in the Indian economy. On one hand, GDP growth is excellent, it has been 7.1 percent and 8.2 percent in the last two years, and has reached 7.2 percent in the first quarter of this year. This sounds great considering the sluggish situation in many countries. On the other hand, there has been modest growth in consumer goods sales, and bank credit growth is also much lower than before. The question is, if GDP growth is so good, then why is sales and credit growth sluggish?

Why is there confusion in the Indian economy?

To find the answer to this dilemma, we will have to look at the poor section of the country. There is a general belief that the poor benefit the most from the increase in GDP. But nowadays, microfinance institutions (MFIs), which provide loans to the poor and small businesses, are witnessing a huge decline. Small finance banks (SFBs), which are MFI-turned-banks, are also facing huge loan defaults.

GDP growth vs MFI crisis

Spandana Spurti, a pioneer in the field of microfinance, had reported a record profit of Rs 468 crore in 2023-24. But this year it has suffered a huge loss of Rs 204 crore in the July-September quarter. This loss was mainly due to non-payment of loans. Credit Access Grameen is a well-managed MFI, but its profits halved in the July-September quarter. Equitas, one of the top SFBs, posted nearly 90% less profit in July-September compared to the previous quarter.
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Big banks got relief

Big banks have got rid of this by recovering bad loans in the 2010s and are now ready to give loans. They are not dependent on the poor and their large business clients are doing well. Yet Bajaj Finance, the largest and best non-bank lender, doubled its provisions last quarter, mostly from small borrowers.

Is rural India in crisis?

The question is why are the poor people not able to repay the loans? Why are the borrowers at the bottom of the pyramid defaulting? Some people say that the reason for this is rural crisis, but it is not so. The real reason is more distribution of small loans. In 2022, the RBI largely de-regulated the MFI sector, eliminating caps on interest rates. It removed the cap on interest rates and stipulated that the monthly payment should not exceed 50 percent of the borrower’s income.

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Situation will improve with RBI’s action!

Encouraged by de-regulation, small lenders began distributing loans with inadequate scrutiny. They also raised interest rates to compensate for the increased risk. Earlier, lenders were asked to avoid borrowers who already had three loans, but in the spirit of de-regulation, cases of six or more loans from different, competing MFIs also emerged. As a result, defaults started increasing. RBI asked the sector to stop giving loans without any guarantee, but it was too late.

Is RBI nervous?

After deregulation, MFIs, as expected, increased lending rates. But RBI has suddenly decided to penalize four MFIs for exorbitant interest rates. Does it make sense to first lift the cap on lending rates and let market competition determine the outcome, and then condemn the outcome? Is it logical to say that 24 per cent lending rate is fine but 26 per cent is excessive? RBI seems confused and nervous, perhaps due to political pressure.

Why is the risk of default increasing?

On top of all this, the last financial year was an El Nino year, with little rainfall. There was a slight decline in food grain production and the overall agricultural growth rate fell to 1.8 percent from the earlier average of 4 percent. This meant that rural distress was increasing, at the same time as small loans were expanding, resulting in an increased risk of default.

Is there another underlying cause?

But is there a more fundamental reason? Could it be that India’s GDP data is overstating actual economic growth, leading to disproportionate lending to the lower strata? Former Chief Economic Advisor Arvind Subramanian has long argued that India’s official GDP growth rates are not in line with other indicators such as credit growth, power generation, consumption of general goods and exports. Most other economists have rejected Subramanian’s claim, but the latest microfinance data will bolster his/her argument.

GST collection was good in the first quarter

Pessimists can point to signs of a distinct economic slowdown in August, when the industrial production index contracted. Purchasing Production Index (PMI) for both manufacturing and services slowed in September 2024. GST collection remained fine in the first quarter of the current financial year, but has increased slowly recently. It was only 6.5 percent in September and 8.9 percent in October, which is slower than the GDP growth of 10.5 percent estimated in the budget.

What will be the situation in the second half?

On the other hand, optimists may argue that the monsoon this year has been above average and that farmers and laborers will benefit from a good harvest. They, especially in the MFI sector, hope that rural reforms will rapidly increase the capacity of borrowers, thereby alleviating the problems of the lower strata. It is definitely too early to say anything. We will get the answer to this in the second half of the financial year.