The Reserve Bank of India (RBI) Bulletin released on September 18, 2023, published data on the “Flow of Financial Assets and Liabilities of Households”. This data is about financial assets and financial liabilities of households across India.

The surveys conducted by wealth managers or wealth surveyors are usually confined to the cities and towns, and hence the outcome would be different but this one includes every corner of the country, including rural areas.

 Financial assets, in the RBI report, are deployments in bank deposits, other deposits (non-banks), life insurance, Provident Fund (PF) and pension, small savings schemes in post office, and investments in mutual funds and equity. Financial liabilities are loans from banks and other entities.

Data And Trends

The data led to a lot of debate. It was revealed that the net savings of households have dropped to a five-decade low. This led to concerns about lifestyle and preferences of people in current times.

The Ministry of Finance also issued a clarification that the low savings rate is not so much of a concern, but a change in approach to managing money; people are availing of loans to finance assets, such as real estate, cars, etc.

But before we comment on the good or the bad part of it, let us first understand what is happening. The data on financial assets of households has been published on two parameters: flow and stock. Flow implies incremental savings or investments in a given time period, similar to how a profit and loss account measures the result of a given time period. Stock means the stock of financial assets on a given date, like how a balance sheet shows an entity’s snapshot on a given date.

In the first quarter of 2020-21 (April-June 2020), at the height of the Covid-19 lockdown and economic slowdown, net financial assets or the incremental flows were, surprisingly, higher than usual. It was 15 per cent of the gross domestic product (GDP). The GDP itself being lower, due to economic de-growth, contributed to it. But even then, in absolute terms, people saved and put their money in financial assets, and so the ratio was higher.

In the next quarter, July-September 2020, net financial assets were lower at 11.7 per cent of the GDP. In the following quarter, October-December 2020, net financial asset flows were even lower at 8.5 per cent of the GDP. This phenomenon is counter intuitive. You would think that at the height of the lockdown, when small businesses were closing down and some people lost their jobs, how could savings and investments be higher?

But this is beyond economics; it is about human behaviour. In challenging times, we become more alert, and our responses are more defensive. In 2020-21, net financial asset flows were 11.5 per cent of the GDP; in 2021-22, they were lower at 7.2 per cent; and in 2022-23, they were even lower at 5.1 per cent. This is the context of the discussion: when economic growth has revived, why are  savings/investments slipping?

As mentioned earlier, the Ministry of Finance has also clarified that people are taking loans to fund assets like real estate, cars or two-wheelers. The financial assets data mentioned earlier—5.1 per cent of the GDP—is net of financial liabilities. In 2020-21, financial assets were 15.4 per cent of the GDP, while net of financial liabilities was 3.9 per cent of the GDP.

Financial liabilities, from 3.9 per cent of the GDP in 2020-21 and 3.8 per cent in 2021-22, have moved up to 5.8 per cent of the GDP in 2022-23. This may also appear counter intuitive. When the economy is growing, why would people need to avail of more loans? This too has got to do with behavioural aspects: when people feel more secure, they improve their lifestyle, even at the cost of indebtedness.

Looking at the distribution of gross financial assets (prior to deducting financial liabilities), the bulk of the share is taken by bank deposits. In 2020-21, deposits were 39 per cent of the financial assets. In 2021-22, they eased to 30 per cent before moving up to 34.7 per cent in 2022-23. Apart from bank deposits, the other major financial assets are life insurance, PF and pension funds, and cash.

The mutual funds’ share in the overall pie is lower. In 2020-21, it accounted for only 2.1 per cent of financial asset flows. In 2021-22, it improved to 6.1 per cent and in 2022-23 at 6 per cent. Allocation to “growth assets” such as mutual funds has improved since 2020-21, but habits need to change and people need to move from defensive assets like bank deposits to growth assets.

On a stock basis (as on a date), we see some improvements as well. Household allocation to mutual funds, which was Rs 17.3 lakh crore in March 2021, improved to Rs 21.5 lakh crore in March 2022 and further to Rs 23.7 lakh crore in March 2023.

Takeaways And Suggestions

The data we discussed above, is the outcome of the collective financial behaviour of millions of Indians. However, it is not about following the herd. You should have your own reasons for behaving the way you do. The basis should be financial planning, preferably with the inputs of a professional financial planner. The basic tenets are:

• When you are considering leverage to finance an asset, ask yourself: is it likely to maintain its value, is it likely to depreciate fast, or is it just to fund a lifestyle? Real estate is the only asset that may appreciate or at least maintain its value. Cars and two-wheelers depreciate over time. A foreign trip has no resale value.
• If you are leveraged, equated monthly instalments (EMIs) should not exceed 40 per cent of the income.
• Having an emergency corpus, equivalent to six months or a year of income, is important. It should be built in times of peace, not in times of war.  What happened in April-June 2020 was an emergency response; if it were planned earlier, things would have been easier.
• Investments should be distributed more towards growth assets like mutual funds than contractual-return ones like bank deposits.
• When you have surplus cash, it is better to prepay loans and reduce EMIs. Returns on investments, particularly the contractual-return instruments, typically, yield less than the rate of interest on EMIs. Equity may yield more than the rate of interest on loans, but it is not a given.
• Leveraging for real estate is justified as you are creating an asset. Leveraging for consumption such as foreign trip, is avoidable. Rather, start a systematic investment plan (SIP) to accumulate a corpus for later years.
• Proper distribution between expenses, EMIs, savings/investments is important.

Conclusion

Taking on financial liabilities to fund assets is a mixed bag. If your EMIs are within a threshold and the asset is adding value, you may go ahead. But if it is for conspicuous consumption, it is risky. The majority may behave in a certain way, but your priorities are unique to you.