Decoding India’s consumer lending opportunity
India is widely believed to be on the cusp of a massive consumer credit access revolution given a set of enabling factors — growing smart phone adoption, the India stack (Aadhar, UPI and ekyc) and positive regulatory reform.
At the 30,000-foot level, it’s all green field. At ~13%, India’s consumer credit to GDP ratio is one of the lowest for a large economy. By comparison, the consumer credit to GDP ratios for the US and China are at 80% and 40% respectively. For India to grow anywhere close to the GDP projections of 6–8 % over the next decade, consumer credit needs to expand dramatically. Multiple projections put credit demand at $1.2T in 2025 up from $287B today. However, once you get into the weeds, the path to this end state is not at all clear. What is going to drive this growth? Who are the borrowers today? How will their needs evolve? Do the same solutions work across segments?
So, we decided to get back to first principles and some basic questions, including: What is the nature of demand today? How is this likely to change over the next decade? We did this in two parts. First, we broke down existing consumer credit usage in India to establish a baseline and also segment borrowers. Second, we projected credit demand in 2025 across these borrower segments. In a subsequent post, we’ll use this data to discuss white spaces that are ripe for disruption. A caveat upfront: we are not economists and have stayed away from projecting overall credit consumption. Our attempt here is to take a stab at how credit consumption today and in the future is likely to be distributed across consumer segments in India.
Understanding existing consumer credit demand in India
The RBI puts out exhaustive data on consumer credit usage across categories.
As per RBI classifications, the four main categories of consumer credit in India are housing, auto, education, and a broad ‘“other” category. Housing remains the largest category in terms of size. This is true globally. Auto has shown growth while education has been flat. The “other” category is a catch-all for all types of loans including consumer durables, medical loans, wedding, travel etc. We estimate $100B as the total credit made available by NBFCs. Consumer lending, in turn, is about 50% of all NBFC lending. Lending by Micro Finance Institutions (MFI) and Self-Help Groups (SHG) is part of the NBFC pie.
So, in summary, it’s reasonable to estimate that total outstanding formal consumer credit in India is around $287B (bank + NBFC lending of $50B).
Who is consuming this credit?
An interesting challenge in this project was trying to get a handle on who the borrowers are. There is limited reliable public data on this. While RBI puts out aggregate credit information there is little data to understand the consumption patterns across consumer segments. When one thinks in terms of white spaces and growth, it is essential to have a sense for the target segment in order to design products, pricing, distribution and unit economics. So, it is important to try and understand who these credit consumers are.
To try and solve for this, we decided to overlay BCG socioeconomic data on aggregate credit data provided by RBI. BCG segregates the population into five groups based on annual income. The elite with incomes greater than ₹20.6L; affluent with incomes between ₹10L and ₹20.6L; aspirers with income between ₹4.5L and ₹10L; next billion with incomes between ₹1.4L and ₹4.5L; and strugglers with income less than ₹1.4L. We view this as a reasonably good classification to assess credit demand as consumer credit is based on total household income and driven by family needs.
To clarify, we are not forecasting aggregate credit growth. We are using well-regarded industry forecasts for this. What we are modeling is the splits across customer segments. Exhibit 2 summarizes our view of consumer credit in India broken down by income categories. The main assumptions are with regard to the percentage of households accessing credit across income levels and average credit outstanding at various income levels. For example, the top 10% of Indian households have an average of ₹15 lakh in outstanding credit while the bottom 10% average around ₹10 thousand.
Top 24M households account for 70% of all consumer credit consumption
The numbers are interesting. Based on our analysis, 24M households in the top two income categories (greater than ₹10L in annual income) account for a staggering 70% of all consumer credit usage in India. The large middle segment of 40M families accounts for a mere $60B in credit today. The last two segments — accounting for a staggering volume of 203M families — collectively access only $26B in formal credit today. We estimate that around $8B is from MFIs and $7B from SHGs. The remaining is likely gold loans accounting for $10B. We cross-referenced this data with MFI and industry experts.
So, it’s a steep inverted consumption pyramid where the top 24 million households have deep access to credit and consume in excess of 70% of formal loan disbursements in India. These are the consumers coveted by most banks, NBFCs, and even fintech companies. They consume the bulk of home, auto, education and personal loans and are beneficiaries of many fintech offerings, including point of sale credit, college student loans, payday advances, and more.
As you move down the pyramid, the number of available credit options decrease dramatically. The middle category of 40M households have access to housing and auto loan products but the average loan sizes are much smaller than those for the top two segments. There isn’t enough data available to underwrite consumers in this category and as a result collateralized gold loans are very popular.
The bottom two classes which consume less than 10% of the overall consumer credit in India are served by Cooperative banks, MFIs, and SHGs. Although there is a need for distinct products for these segments — e.g. loans for home repair, wedding, education, etc. — there are very few on offer. Most of the consumption is driven by unsecured micro-loans that are built on the back of micro-savings.
In the lower half of the pyramid, formal credit is inadequate and offset by large volumes of informal lending. Currently, informal credit from money lenders, chit funds and relatives play a big role in filling the large gap. Informal credit, at atrociously high-interest rates, may equal or even exceed current formal credit of $287B.
How credit usage is likely to change by 2025
There is little debate that we’ll see a significant shift towards formal sources of credit by 2025. This is a shift that is likely to be helped by two drivers: 1) increasing prosperity leading to an upward shift in incomes and access to the formal financial services ecosystem; and 2) a new generation of financial service providers (start-ups or incumbents) that can leverage smartphone penetration, open APIs such as the India stack, and policy tailwinds to offer solutions that gain widespread acceptance among new segments.
For 2025 projections, we again started with the BCG socio-economic pyramid. BCG’s estimates of consumer income growth are generally in line with overall estimates from other forecasters. We added our assumptions on consumer debt to income ratios for each segment to arrive at an estimate of credit usage and distribution. Beyond the exact numbers, what is relevant is a significant change in the shape of the original pyramid. This gives us clues on white spaces and where the greatest disruption opportunities lie.
The credit penetration at the bottom two levels at 80% and 70% respectively may appear very high. Its worth noting that the aggregate level of credit does not vary much at 50% or 70% penetration for Strugglers as the loan amounts are very low. Moreover, our assumption is that there is likely a big shift from informal to formal sources of credit at the bottom two layers as digital infrastructure begins to penetrate across users.
Here are the main shifts by 2025 — in terms of the total addressable market.
The market itself grows 4.3x to $1.2T. Total households grow from 267M to 305M (the total credit and household growth are industry forecasts and from the BCG income pyramid).
In terms of segment splits, our assumptions yield the following:
- Elite households grow by 9M and account for $330B of total credit consumed — up from $120M in 2017.
- Affluent households grow by 16M and account for $245B of total credit consumed — up from $82M in 2017.
- The middle of the pyramid — Aspirers and the Next billion together accounting for ~50% of total credit usage — grows 7x from $85B in 2017 to a staggering $590B.
- The Struggler segment gets greater exposure to formal credit at $65B — up from a mere $1.2B in 2017
Our objective with this exercise was to play out a few scenarios to model credit consumption in India over the next decade. You can tweak the segment assumptions for yourself and come up with your own mix. Directionally it’s pretty apparent that the big opportunity lies in the middle — with hundreds of millions of new to credit and thin file Indians representing a brand-new segment. So what does it take to win in this white space? In a subsequent post, we’ll discuss customer requirements in this segment, challenges in distribution, and the opportunity to build truly disruptive businesses.
This article was originally published on Linkedin on September 15, 2017
