Lending curbs a tightrope walk between capex growth and inflation

capex growth, private capital expenditure
As government spending slows, the spotlight shifts to private capital expenditure to fuel India's ambitious growth path.

India Inc’s capex growth: The Union government and policymakers face a challenging task – combating inflation while simultaneously supporting growth. This balancing act is difficult to achieve. In its efforts to control inflation, the government may have inadvertently hampered economic growth. 

Over the last one year, there has been a noticeable slowdown in corporate revenue growth, impacting their capital expenditure. With their top-line growth diminishing, India’s leading companies are now more cautious about investing in capacity expansion. Last year, a Reuters report said that as Indian lenders expanded lending to local corporations at the fastest pace in more than eight years, a sign of a new private investment cycle began in the world’s fifth-largest economy. This was at a time when growth in large developed economies and China slowed.

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Contrary to what might seem logical, the government has supported the Reserve Bank of India’s decision to limit lending exuberance. On Thursday, Union finance minister Nirmala Sitharaman endorsed the RBI’s approach and advised non-banking financial companies (NBFCs) and small finance banks to be vigilant in their lending practices. The government often discourages bank lending as a strategy to combat persistent inflation or to maintain economic stability by preventing overheating.

On November 16, in response to rising unsecured loans, like personal loans and credit card spending, the RBI tightened regulations for unsecured consumer credit. It required banks and NBFCs to assign higher risk weights, meaning lenders must reserve more funds as a safety net for these loans, making such credit costlier and limiting banks’ lending capacity. RBI Governor Shaktikanta Das stated that this stricter stance was a proactive measure to ensure financial stability.

The government recognises that India’s growth relies on banks lending to businesses. However, the Finance Minister emphasised the need for restrained enthusiasm in lending practices.

Lending and capex growth

When government lending slows, it affects capex growth in companies. While not directly linked, companies often halt new investments when bank loans become harder to access. This is compounded by a decline in India Inc’s revenue growth.

The combined fixed assets of listed companies, excluding the banking, financial services, insurance (BFSI) sector, and government-owned oil & gas firms, grew by 10.1% year-on-year (Y-o-Y) in the first half of the 2023-24 financial year (April-September 2023). This growth is significantly lower than the 18-month average of 21.1% Y-o-Y in the second half of FY22 (October 2022-March 2023) and 11.6% in the first half of FY23 (April-September 2022).

This trend is also evident in non-BFSI companies, where fixed assets increased by 10.4% Y-o-Y in the first half of FY24, lower than the 19.1% Y-o-Y growth in the second half of FY23.

Companies are slowing growth due to a deceleration in corporate revenue. The combined net sales of 725 companies, excluding BFSI and state-run oil & gas firms, rose by only 4.2% Y-o-Y in the first half of FY24 – the lowest half-yearly increase in three years. While there was a 12.2% growth in the second half of FY23 and a 31.3% increase in the first half of FY23, the current period shows a significant downturn. The decline in net sales is even more pronounced when including public sector oil & gas companies.

Typically, net sales growth correlates closely with investment in fixed assets. With consumer demand remaining low, companies have little incentive to invest in capacity expansion. Instead, they focus on improving margins and profits through cost-cutting, rather than investing in growth.

Banks are key financing sources for businesses. When they become reluctant to lend, businesses have less capital for new equipment, facilities, and employees, potentially reducing productivity, output, and economic growth. However, it is anticipated that once the government gains confidence in managing inflation, is primary goal will be to stimulate economic growth and invigorate India Inc.

Lending restrictions can have a significant impact on economic growth. They can reduce the availability of credit to businesses and consumers, which can lead to decreased investment, consumption, and economic activity. In some cases, lending restrictions can also contribute to financial instability and crises.

Restrictions may result in businesses failing to get the loans to invest in new products, equipment, or facilities. This can lead to decreased productivity and competitiveness. Businesses may have to pay higher interest rates on loans, which can reduce their profits and make it more difficult to expand. They may also find it difficult to hire new employees or may even have to lay off existing employees if they are unable to get the credit they need to grow.

Consumers may not be able to get the loans they need to buy big-ticket items like cars or homes. This can lead to decreased spending and economic activity. They may have to take on more debt to finance purchases, which can make them more vulnerable to financial hardship if they lose their jobs or experience other setbacks.

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Lending restrictions can lead to a situation where there is too much demand for credit and not enough supply. This can drive up interest rates and make it difficult for financial institutions to meet their obligations. In some cases, this can lead to financial crises.

All these together can have a negative impact on economic growth. However, there are some cases where lending restrictions may be necessary to prevent financial instability or to promote economic stability. It is important for policymakers to carefully consider the potential impacts of lending restrictions before implementing them.

Meanwhile, analysts at Care Ratings, believe that a revival in the private capex cycle is around the corner. On a global scale, the monetary policy cycle is nearing its peak, with inflationary pressures slowly diminishing. It is anticipated that the cost of money will begin to decline next year as major central banks embark on their rate-cutting journey.