India - As loans get tougher,plastic gets consumers going

Last Saturday, the Reserve Bank of India’s deputy governor, V Leeladhar, put out a red flag to the fast-growing credit card market in India, when he pointed out that defaults by credit card holders are going up and many banks are actively looking at the issue. There is good reason for the country’s Central bank to worry—by May 2008, India’s outstanding credit card debt had touched over Rs 26,500 crore, up a sharp 87% from May 2007.

By contrast, outstanding credit card liabilities grew 45% in the previous year. In fact, credit card receivables grew faster than all other segments of consumer loans—personal, housing, consumer durables and advances against fixed deposits—in 2007-08. Personal loans, for instance, saw a sharp dip in growth—from 23.9% at the end of May 2007 to less than 16% till May 2008.

With inflation hovering at nearly 12% and the Central bank tightening its monetary policy in response, the credit squeeze is hurting individual consumers as much as India Inc, if not more. And with banks getting stingier on doling out personal loans, it seems more consumers are opting to flash their plastic credit lines to make purchases —even if that means paying a much higher interest rate than around 19%—the rate charged on personal loans.

“In the last couple of years, if interest rates on personal loans have risen by 100bps, they have been increased by 110 bps on credit cards, but the easy issuing of cards has made them attractive,” said Saugata Bhattacharya, vice-president, business and economic research, Axis Bank.

Importantly, the RBI is not seeing any signs of a slow-down in the demand for credit cards. “Demand for credit cards has not slowed down. It (the demand) might have plateaued,” Leeladhar said at an Indian Banks’ Association function.

Easy money

With banks competing aggressively in the credit card business, getting a credit card is easier than it used to be, especially with several players distributing unsolicited cards to potential consumers. More importantly, with the demographic profile of the country changing so that a greater part of the working population is young, consumption patterns are changing as well as the mode of spending.

“Unlike in the past, credit cards are now easily available. Generally, the younger generation, which has many job options/other income avenues, prefer to spend now to meet their needs and re-pay later. Hence, credit card usage has gone up,” said KPMG executive director Vikas Vasal.

Moreover, even as banks have gone slow on personal consumption loans, retailers who had tied up financiers to give on-the-spot loans in segments like consumer durables, are not as active as they used to be. In many cases, there are no financing facilities for prospective customers in the store premises.

To get traditional financing, consumers have to approach a bank and go through cumbersome paperwork for a personal or consumer durable loan. The alternative —of simply pulling your credit card out of your wallet—seems much more palatable, especially with several card issuers offering an ‘equated monthly instalment’ option for big-ticket purchases.

“Many a times, one needs to buy goods urgently to meet certain requirements. Obtaining a personal loan takes time and requires lot of documentation. In comparison, it is much easier to buy using credit cards,” Vasal points out.

It’s not just credit cards that are seeing high usage. With electronic payments evolving into a robust system in the country, savvier consumers are saying goodbye to the ‘cash and carry’ economy as well as their cheque-books. Retail electronic payments, which grew at more than 80% in 2007, continue to soar. In May 2008, electronic payments were at Rs 41,675.59 crore, 11.14% higher than April 2008 (Rs 37,497.15 crore) and up 76.64% from May 2007.

Dark Clouds

The Central bank had recently suggested capping the rate on personal loans and credit cards, which it considers excessively high. Banks charge 40-49% per annum interest in cases where card holders cannot make the full payment on the due date or pay the minimum amount due. This rate is about four times that on housing loans, currently at 10.45-11%.

“Rates are not likely to come down this fiscal as the RBI would keep a tight monetary stance. People may defer purchases for sometime. Even if they are to make the purchase by availing loans, they should invariably go for personal loans and not credit cards,” Bhattacharya advises.

It is in this context that the RBI deputy governor’s comments on rising card defaults become significant. The Central bank has emphasised the need to improve the credit quality through a stricter loan appraisal process, in its first quarter monetary policy review on July 29.

According to a Crisil report, unsecured loans (including personal loans and credit card receivables) form an estimated 20% of the total outstanding retail loans as on March 31, 2008, up sharply from 6% on March 31, 2004. The ultimate losses on these receivables are often higher than those in the secured asset classes, the rating agency pointed out.

The credit card business’ exposure to low-income customers has been continuously rising. Loss levels in the low-income customer segment are currently estimated to be in the range of 7 to 9% and Crisil expects the asset quality to deteriorate.

It also expects loss levels in the range of 12 to 15% over the medium term, on account of over-leverage by customers, and the entry of players into under-banked geographies. “In the US , NPAs have risen mainly due to a housing slump, sinking income and employment. In India, the defaults are arising due to an increase in interest rates by banks,” Bhattacharya said, adding that these defaults are not unmanageable and banks can easily factor these in their books.

Gross non-performing retail loan assets would increase to around 4% of total retail loans by March 2009, up from 2.7% in March 2007, Crisil estimates. The rise in bad debts would affect top lenders like ICICI Bank and HDFC Bank, which comprise the major portion of the retail loan market.

ICICI Bank has already responded by setting stricter eligibility criteria for loans. The country’s largest private lender and the market leader in credit cards has also decided to restrict growth in the card business to 15% this fiscal, from the 25% growth earlier envisaged.

Bankers have begun tightening their lending belts. The question is whether spending by consumers, already used to easy plastic money, would go down.