The private sector debt dynamics

It appears that back-to-back rate cuts have started bearing fruits for the private sector. The central banks third quarterly report on the state of economy speaks volumes about this optimistic development.
Since June 2012, the weighted average lending rate saw a reduction of 267 basis points to 10.5 percent, owing to cuts in the discount rate - and this is where the private sector lending takes flight.
While overall private sector lending dropped 30 percent year-on-year; loans to "private sector businesses" have witnessed some major progress during the quarter. From mere 21 percent of the net private sector credit off-take in 3QFY12, it makes up more than 100 percent of the net credit to the private sector in 3QFY13. In monetary terms, it fetched a growth of Rs122.2billion year-on-year.
What has actually diluted the overall private sector during 3QFY13 is the deceleration in banks investments in Non-Banking Finance Companies (NBFCs).
From a net disbursal of Rs65.9 billion in 3QFY12, it boasted a net retirement of Rs76.3 billion in 3QFY13. Market sources attribute this sharp turnaround in credit to NBFCs to consistent tax hikes on income received from money market funds and income funds.
From 10 percent up to FY12, tax on income from money market funds and income funds climbed to 25 percent by FY13 and was set at 35 percent in FY14 (as per Finance Act, 2012). This considerably shrank the arbitrage opportunity available to the banks, given the rate of tax on their income set at 35 percent.
Industry players say that the drop in credit off-take to NBFCs is actually positive since the funds advanced to NBFCs are in turn channeled to government, adding no value to private sector development.
Quite predictably, low risk appetite on the part of banks kept them away from long-term loans. While fixed investments increased by 58 percent year-on-year in 3QFY13, the growth can be reasoned to low base effect. As a percentage of total loans to private businesses, loans for fixed investment dropped to 11 percent in 3QFY13 from 28 percent the same period a year ago.
Major growth propellers in fixed loans category were loans advanced to food and beverages companies particularly sugar companies to finance their initiative to tap power generation business using bagasse and biomass. Besides, the number brags capacity enhancements in industries such as plastic products, paper and board, electrical machinery and spinning.
The third category in loans to private sector businesses - trade finance - saw growth of Rs17.3 billion during 3QFY13, in sharp contrast to a net retirement of Rs6.4 billion during the same period last year. This largely owes to export finance schemes availed by rice, sugar and textile sectors.
With a pro-business government in-place, expectations abound that private sector credit will grow from this point onwards. Yet, energy crisis may keep credit demand in check while growing government reliance on domestic sources to fund fiscal gaps may misdirect the supply of money.