The recent occurrence of rising defaults in the microfinance industry has brought back the focus on a potential rise in debt distress among low-income households in India. According to a report by Crif High Mark, microfinance loans overdue for up to 31-180 days increased from 2.1% in March 2024 to 2.7% in June 2024. While there could be several supply-side factors at play for the rise in defaults, in this blog we direct our attention to reviewing the household side of the story by assessing the changes in household balance sheets post the COVID-19 pandemic. A review of household balance sheets allows us to understand how households engage with the formal financial system and the strategies they adopt to manage their finances. To investigate this theme, we use the Centre for Monitoring Indian Economy’s Consumer Pyramid Household Survey (CMIE-CPHS) dataset from 2021 to 2023. The CMIE-CPHS dataset covers a vast spread of data points about Indian households such as their income and expenditure patterns, savings and investments households make across different financial and non-financial instruments as well as the outstanding debt that households report from both formal and informal sources. Below we summarise our insights for the two sides of the household balance sheet.
Household Liabilities (2021-2023)
We find that the percentage of households with outstanding borrowings changed by four percentage points during the period 2021 and 2023. On average, 48% of Indian households reported outstanding debt in 2021, which increased to 50% and 52% in 2022 and 2023, respectively. The composition of these loans at the household level has changed significantly, i.e., the percentage of households with formal loans increased from 17% in January 2021 to 29% in September 2023. Parallelly, the percentage of households with informal loans decreased from 34% in January 2021 to 27% in September 2023. Borrowing from Banks, SHGs, and NBFCs are the most prominent sources of formal borrowing, whereas borrowing from shops, and friends and family dominates informal sources of borrowing. These broad trends hold for both rural and urban households. When we compare household outstanding borrowing by different income quintiles, we note that the percentage of households with informal borrowing was the highest for the lowest income quintiles (quintiles 1 and 2, i.e., the bottom 40% of Indian households) and the lowest for the top-most quintile (quintile 5). Between 2021 and 2023, the percentage of households with informal borrowing kept fluctuating with a sharp drop between May and September 2023, whereas this percentage steadily increased for households with formal borrowings, across all income quintiles. Interestingly, the sharp drop in informal borrowing between May and September 2023 coincided with an increase in formal borrowing during the same period for all income quintiles, but especially for low-income households. A simple explanation for this pattern could be that households had limited capacity to lend to others in their community and therefore households who needed loans were substituting the drop in informal borrowing with formal borrowing. Another possible explanation could be that households who had the capacity to lend were being cautious of lending, potentially due to the reduced ability of their community members to repay those debts. Since low-income households are deeply embedded in their social networks, monitoring of informal loans and therefore the ability to assess repayment capacity by the informal community of lenders (relatives, moneylenders, employers, etc.) may be much stronger.
The data also points to a noticeable increase in the percentage of households borrowing to repay debt between 2021 and 2023, across all income quintiles. This increase was the largest for income quintiles 4 and (5)- from 19% (15%) in January 2021 to 27% (26%) in September 2023. Borrowing to repay debt is an important signal of potential distress in household balance sheets as households would mostly ‘borrow to repay debt’ if they are unable to meet their debt obligations from existing sources of income or savings. Borrowing to repay debt could therefore put them into a vicious cycle of debt trap. Interestingly, 60 to 70% of loans borrowed for debt repayment were being sourced from SHGs, followed by borrowing from friends and family, and chit funds, suggesting that formal and informal sources of debt are complementary to each other. We also find that the percentage of households with two loans almost doubled from 5.7% to 11% and those with three loans increased from 0.5% to 3% between January 2021 and September 2023. In line with this pattern, the percentage of MFI borrower households with more than a single loan also increased during the analysis period. We find that MFI borrower households with two loans increased from 24% in January 2021 to 60% in September 2023. Together, these data patterns point towards a rising incidence of indebtedness from formal sources and potentially a concentration of formal credit among Indian households.
Household Assets (2021-2023)
Moving to the asset side of the balance sheet, we find that the percentage of households with savings and investments in formal financial products increased between January 2021 to September 2023. As of September 2023, household participation in Fixed Deposit (F.D) accounts and Life Insurance was the highest at 47% and 43%, respectively, followed by Post Office Savings (28%) and Provident Fund accounts (12%). As of September 2023, participation in Listed Shares and Mutual Funds was less than 2 percent. Household participation in informal financial products such as chit funds and other financial instruments (savings groups) roughly increased by 5 percentage points during the analysis period. As of September 2023, 14% of households had a chit fund account and 11% were part of a savings group. Household investment in physical assets such as real estate, gold, and consumer durables was universal. These broad trends hold for both rural and urban households.
However, the participation of low-income households in formal financial savings and investment products saw a downward trend since January 2023. The percentage of households saving through Fixed Deposits and Life Insurance accounts fell for income quintiles 1 and 2 since January 2023. Similarly, savings in Post Office accounts fell for income quintile 1, and savings in Public Provident Funds declined for the bottom 80% of Indian households. Finally, chit fund accounts which are a popular channel of saving for low-income households also saw a decline since January 2023.
Concluding remarks
The data indicates that access to formal credit has made huge inroads in household portfolios. This is evident from not only a steady increase in formal borrowing during the last few years but also an increase in the number of loans per household and the use of loans (from sources such as SHGs) to repay existing debt. For low-income households, the decrease in formal savings and investments (via instruments such as Fixed Deposits, Life Insurance accounts, Post Office accounts, etc.) since January 2023 also coincides with an increase in formal borrowing and a sharp decrease in informal borrowing. According to research by Amit Basole and Anand Shrivastava using the CMIE dataset, post-COVID consumption growth for Indian households has been higher than income growth, putting a strain on household savings. Moreover, the poorest ten percent have seen the biggest rise in income-consumption mismatch between 2019 to 2023. For the lowest income decile, the consumption-to-income ratio was 0.99 in 2019 compared to 1.11 in 2023. The consumption-to-income ratio for deciles 2 and 3 was below 1 but at roughly 0.8, indicating little surplus for these segments. These numbers coupled with households’ financial behaviour (outlined above) indicate that increased consumption for low-income households is potentially being sustained by depleting savings and increasing borrowing, signalling financial distress.
This slide deck has more info on the balance sheet.
