A puzzling industrial credit-growth disconnect in FY17-FY19

The Indian banking sector plays a critical role in industrial growth. It channelises household savings to provide funds to firms at affordable rates. A review of the growth of credit to industries shows four facts and a puzzling observation.

Fact 1: The share of industrial credit in total bank credit has declined from 42% in 2013 to 23% in 2024 as shown in the below chart. Such a decline is unprecedented in half a century. Credit to the services sector has benefited at the expense of industrial credit. This is largely driven by personal loans, which surpassed industrial credit share recently.

Fact 2: The nominal growth of Industrial credit has been abysmal in the last decade. During 2014-24, the compound annual growth rate was 4.1% as shown in the below chart. Growth was 16% during 1974-90, 14% during 1990-04, and 23% in 2004-14. This pattern holds if we exclude the post-COVID-19 pandemic years. Growth was 4.1% for 2014-19.

Fact 3: This observation holds if we disaggregate the growth rates based on regions. The three most industrialised regions – western, southern, and northern – saw lesser growth than the India average. The higher than average growth for the central and northeastern regions as shown in the below charts is likely on account of their lower industrial credit share. This pattern holds when we look across industry groups. None of the broad industry groups saw credit growth in double digits in 2014-24 (Chart 4). Compared to this, 2004-14 saw the credit growth of each industry group in double digits.

Fact 4: The bank credit as a proportion of India’s GDP, a measure of financial deepening, increased impressively during the late 1990s (about 20%) and the early 2010s (over 50%). Since then it has hovered between the 50%-55% range. A higher credit/GDP ratio is not unheard of: Japan (about 1.2), China (about 1.9), South Africa (about 0.9) and Brazil (about 0.75). This stagnancy, when seen with the declining share of industrial credit does not paint an optimistic picture.

The puzzle: The below chart illustrates a consistent co-movement between industrial GDP growth and the growth of the formal manufacturing sector (GVA-ASI). However, these two metrics diverged during the three-year period between 2016–17 and 2018–19. While industrial credit slowed and GVA-ASI showed an expected downturn, industrial GDP remained puzzlingly constant. This decoupling represents a significant anomaly.

The historical relationship between industrial credit and industrial growth has been remarkably consistent. Over the last four decades (1981-2024), the correlation between industrial credit and ASI-GVA growth stood at 0.45. In more recent decades, this bond has only tightened: rising to 0.56 between 2000 and 2024, and 0.63 since 2004. Most notably, in the pre-pandemic window (2004-2020), the correlation reached a striking 0.82. So, under normal economic conditions, bank credit and industrial output move almost in lockstep. It is against this backdrop of long-term stability that the 2016–2019 decoupling becomes so significant. This pattern provides some credence to an overestimation of industrial GDP in the current NAS series (2011-12), as has been argued by some economists. The team working on the new revision may take note of this, especially in light of the IMF downgrading India’s GDP estimates to ‘C’ status. The causes of the decline in industrial credit growth in the last decade require a deeper probe.

The writer teaches at the School of Liberal Arts and Humanities, O.P. Jindal Global University, Sonipat. The comments by Professor R. Nagaraj and Prof. A. Kalaiyarasan are acknowledged.