Asia insights

India: Stacking up efficiency gains

India’s system of digital payments has revolutionised the way people transact – from shopping for groceries to paying bills to making cross-border transfers. This revolution has been facilitated by India’s Unified Payments Interface (UPI), a proliferation of smartphones and the scaling up of a unique identity system – Aadhaar - that covers more than 1.2 billion of India’s citizens.

UPI has been the big success story of the strides India has made toward bringing swathes of people from the informal economy into the formal one. Virtually non-existent just seven years ago, the UPI platform saw 8.9 billion transactions totalling U.S. $172 billion in value in April 2023 with 414 banks nationwide now part of the system, according to data from the National Payments Corporation of India. The next stage of the ongoing revolution in India’s financial system hinges on plans to utilize the financial data – such as consumer cashflows - that until now remained outside the formal banking system. Better visibility into the financial habits of hundreds of millions of incremental consumers is likely to make it easier for banks to price and create loans – paving the way for a consumer credit boom in India, in our view.

Key to India’s ongoing financial system revolution is the India “Stack” – a hat tip to coding terminology and the collective name for the various elements of the digital infrastructure that is making finance more accessible. The “stack” suggests the building blocks are designed to be interoperable and can be stacked together with a view to enable secure and efficient data exchange between various financial institutions and consumers.

One area we see potential for strong growth in coming years is consumer lending. Retail loans – or bank lending to individual borrowers – have grown at a quick clip in recent years. Retail credit was nearly 30% of total lending as of March 2023 (vs. 25.6% in March 2019), according to data from the Reserve Bank of India (RBI). Too rapid a rise comes with risks, particularly if incomes don’t keep up. The RBI has already flagged such risks related to retail lending that since November 2020 have outpaced lending to the industrial sector. Yet some of this growth also partly reflects increasing inclusion in the financial system amid cohorts that were less represented in the past. For instance, retail loans to women rose 25% in the year to March 2023. See here.

More importantly, aggregate levels of consumer indebtedness remain relatively low. India’s household debt to GDP has flatlined at about 35% over the past decade according to the latest data from the IMF as of the end of 2022. That compares to about 90% for Thailand, 105% for South Korea and 62% for China – other Asian economies that have in the past seen consumer credit booms. According to the IMF, a ratio above 70% could potentially be a concern. That suggests consumer lending in India in aggregate is not at levels that may raise red flags. We think consumer lending to segments of the population that traditionally turned to an antiquated and informal system of money lenders that accepted property or land – or machinery for small and medium enterprises - as collateral is poised for disruption and could spark the next leg of consumer lending.

An important development in the India Stack is the Account Aggregator (AA) framework. The framework aims to empower individuals and businesses by providing them with greater control over their financial data and simplifying the process of sharing this information with various entities.

Investment implications
India is not immune to global macro risks, particularly over the short-term. The implication of India’s stack is more of a medium-term story that we expect will play out in coming years. After all, Aadhaar – the national ID system – launched in 2010, 4G first came to India in 2012 and UPI launched in 2016. It has taken a few years for the ecosystem to come together.

We think there could be sectoral opportunities ahead – underscoring our view of getting more granular in picking investments within tactical and structural horizons and differentiating within broader emerging markets to uncover such opportunities. A boom in credit creation – backed by actual financial transactions data and a setup aimed at enabling customers to maintain control over such data – bodes well for consumption-related sectors, we think. There could be some negative implications for large banks’ lending business as their network effect is disrupted by the ability of consumers to shop around more freely. Yet a growing pool of borrowers and market share gains could help offset any net interest margin compression for banks that are able to capitalize on the opportunities.