• GDP-credit relation has possibly broken, with credit failing to pick up in spite of bottoming out of growth trajectory
  • Trend divergence between GDP (as per new base) and credit is possibly due to methodological changes, falling trend in nominal GDP growth and continued weakness in investment demand
  • Other factors weighing on credit are fall in global commodity prices, increased reliance of corporates on market-based funding sources and asset quality concerns in banks

 

The GDP data recently released by the Ministry of Statistics indicates a sharp revision in growth rates using a new methodology. However, it has led to questions that how such a high level of GDP growth leads to slow and ranged credit growth levels. We attempt to resolve some queries in this regard.

 

Latest GDP growth data invoked discussion on credit-GDP puzzle
As per our earlier research, we concluded that GDP leads recovery in credit by 1-2 quarters. However, while the GDP data indicates a sharp strengthening in recovery prospects, it has yet to translate into an increase in credit growth. This brings into question our initial results and requires further investigation.

 

Diverging trend between credit & GDP (new base) is attributable to following:

 

Methodological changes: In the GDP data as per new base, apart from accounting for value addition, the focus is also on capturing the efficiency and productivity gains. The change in methodology has pushed up the GDP growth numbers while having limited credit impact.

Slowdown in nominal GDP growth: While real GDP is on a rising trend, the nominal GDP growth has dropped over the last few years, owing to an improvement in inflation outlook. This factor we believe has also weighed on the nominal credit growth numbers.

Investments yet to show a meaningful pickup: On comparing GDP data as per new base with the old series, we find that capital formation follows a subdued trend and has remained weak, thereby weighing on credit.

 


Credit growth trend in FY2015 lagging the model based projections
Using GDP and inflation data as per old base, our credit models (Credit = 2.36*GDP+ 0.36*CPI) or (Credit = 1.93*GDP + 0.83*WPI)) projects credit growth to clock ~13% - 16% YoY in FY2015. However, the actual credit data is lagging and has been ranged in 10-11% YoY for past 6 months, in spite of a favourable base effect. This indicates impact of other factors is predominant in explaining the slow growth in advances.

 

Various other factors also explain the relatively slow credit growth

  • Fall in global commodity prices: Given the high import intensity of industrial sector, the sharp fall in global prices has led to a drop in costs. This is indicated by negative credit growth for various sub-sectors.
  • Increased CP issuances: The AAA rated corporates and NBFCs are fulfilling their demand for funds using cheaper market sources like commercial papers, instead of relying on banks.
  • Asset quality concerns in banks: The banks are witnessing an increase in non-performing loans and restructured assets as the economy recovers from the downturn in business cycle. This has possibly led to cautiousness in the banks’ incremental lending to corporates.

 

While the economy has bottomed out, credit growth remains weak. Trend divergence between GDP (new base) and credit is due to methodological changes, slowing nominal GDP growth and weakness in investment. Moreover, other factors weighing on credit are fall in commodity prices, increased use on market-based funding and banks’ asset quality concerns.

Appendix

Latest GDP growth numbers have invoked discussion on credit-GDP puzzle

Using GDP data (as per old base), credit and GDP moved in the same direction. In fact, credit lagged GDP growth by 1-2 quarters.

However, using the GDP data (as per new base), we find that the credit and growth are not moving in the same direction. This brings into question our initial results and requires further investigation.

The cause for the diverging trend between GDP (as per new base) and credit growth is possibly attributable to these factors:

  • Statistical revision in the real GDP growth has not led to a sharp pickup in nominal growth numbers

  • Investment yet to show a meaningful pickup: On comparing GDP data as per the new base with the old series, we find that investment follows a subdued trend.

Credit growth trend in FY2015 lagging the model based projections

 

Using GDP and inflation data as per old base, our credit models (Credit = 2.36*GDP+ 0.36*CPI) or (Credit =1.93*GDP + 0.83*WPI)) projects credit growth to clock ~13% - 16% YoY in FY2015.

 

However, credit growth has been lagging and has witnessed a downward bias, in spite of a favourable base effect.

Various other factors explain the relatively slow credit growth

 

Fall in global commodity prices: Given the high import intensity of industrial sector, the sharp fall in global prices has led to a drop in costs and consequently weighed on credit demand.

Increased CP issuances

 

The AAA rated corporates and NBFCs are fulfilling their demand for funds using cheaper market sources like commercial papers, instead of relying on banks.

Banks have become cautious in lending decisions:

 

Banking sector asset quality a concern: Under such conditions, the willingness to lend of banks is likely to be weak, which would weigh on credit supply.