RBI Report: Indian Financial System Resilient & Stable

The Reserve Bank of India (RBI) has issued a new financial stability report. It reflects the collective assessment of the Subcommittee of the Financial Stability and Development Council (FSDC) on the resilience of the Indian financial system and risks to financial stability. In this short write-up, we will share the highlights of the report.

Key Highlights of the RBI Report

Here are the highlights from the RBI's Financial Stability Report:

Global Macro Financial Development & Outlook

Global growth remains steady, with the balance of risks to outlook tilted to the downside. Strong growth in the US and a stable outlook in EMDEs are positives for the world economy. Moreover, the global battle against inflation is winding down without the risk of recession. With stronger recovery in public investment in AEs, and structural reforms in EMDEs, growth could accelerate.

Downside risks, such as escalating geopolitical tensions, uncertainty about trade and industrial policies in the aftermath of major global elections, and potential tightening of financial conditions, however, could drag global output lower from baseline projections.

Global Macrofinancial Risks

Below are a few risks highlighted as global macro-financial risks:

• High and Rising Levels of Public Debt: Global public debt is projected to exceed $100 trillion (i.e., 93% of global GDP) by the end of 2024. The world’s two largest economies (the US and China) are the main drivers of this surge which is expected to surpass 100% of GDP by 2030.
• Asset Valuations and Volatility: Since the June 2024 FSR, global equity markets have rallied, fuelled by expectations of soft landing and lower interest rates. It has stretched equity valuations, with many stock indices trading at high price-to-earnings ratio or P/E ratios relative to historical levels.

Domestic Growth and Inflation

During H1:2024-25, real GDP growth (y-o-y) moderated to 6.0% from 8.2% and 8.1% growth recorded during H1 and H2 of 2023-24, respectively. Despite this recent deceleration, structural growth drivers remain intact. Real GDP growth is expected to recover in Q3 and Q4 of 202425 supported by pick up in domestic drivers, mainly public consumption and investment, strong service exports, and easy financial conditions.

On the downside, the softness in industrial activity, especially in the manufacturing sector, moderation in urban demand, global spillovers, and protective trade and industrial policies pose risks to the outlook.

Corporate Sectors

The overall performance of listed private non-financial companies (NFCs) has remained steady this year so far: sales growth (y-o-y) remained stable at 6.2% in H1:2024-25 same as in H2:2023-24. Sales growth of manufacturing companies remained unchanged at 4.9% during H1:2024-25, while for IT and non-IT services sectors, sales rose by 5.7% and 9.6%, respectively.

Government Finance

In the post-pandemic period, India’s public finances have been underpinned by a steadfast commitment to fiscal consolidation. The focus on capital expenditure to support investment and economic growth has resulted in a consistent improvement in the quality of expenditure.

Capital expenditure and capital outlay of the union government contracted (y-o-y) by 35.0% and 35.4%, respectively, during Q1:202425, largely due to the model code of conduct being in force during the general elections. The ratio of central government debt to GDP, which peaked at 62.7% in 2020-21 due to public policy measures to mitigate the impact of the COVID-19 pandemic, has been moderating subsequently and is estimated at 56.8% in 2024-25 (BE).

Financial Markets

Despite the recent correction, equity valuations remain elevated across metrics, such as trailing and forward price-to-earnings (P/E) ratios, market capitalisation-to-GDP, and earnings yield. Stretched valuations are more prominent in midcap and smallcap stocks. Notably, the Nifty Midcap 150 Index was trading at a P/E ratio close to 43.7 in mid-December 2024 compared to its long-term average of 34.8.

Banking Stability Indicator

The banking stability indicator (BSI), which provides an assessment of the resilience of the domestic banking system, showed further improvement during H1:2024-25.

There has been a noticeable slowdown in both retail loans and bank lending to NBFCs from CAGR of 26.9% and 28.7% between September 2021 and September 2023 (when headline credit growth was 18.6%) to 13.0% and 6.4% (y-o-y), respectively, in September 2024. Unsecured retail lending growth also fell from 27.0% to 15.6% over this period.

Banks’ retail loan quality has remained stable so far: the GNPA ratio stood at 1.2% in September 2024.  An area of concern, however, is the sharp rise in write-offs, especially among private sector banks (PVBs), which could be partly masking worsening asset quality in this segment and dilution in underwriting standards.

Non-Banking Financial Companies

As prudential increases in risk weights on NBFC lending to certain consumer credit categories as well as on bank lending to NBFCs took fuller effect, NBFCs’ loan growth moderated further during H1:2024-25 to 6.5% (h-o-h) in September 2024. The impact was particularly visible in the upper-layer NBFCs (NBFC-UL) segment, which comprised primarily of NBFC-ICCs45 with a high share of retail lending (63.8%) in their loan book. Middle-layer NBFCs (NBFC-ML), excluding government-owned NBFCs, however, maintained robust loan growth, especially in retail loan portfolios.

Microfinance

The microfinance sector is showing signs of stress, with rising delinquencies across all types of lenders and ticket sizes. During H1:2024-25, the share of stressed assets increased, with 31-180 days past due rising from 2.15% in March 2024 to 4.30% in September 2024.

Scheduled Commercial Banks (SCBs)

The soundness of scheduled commercial banks (SCBs) has been bolstered by strong profitability, declining non-performing assets, and adequate capital and liquidity buffers. Return on assets (RoA) and return on equity (RoE) are at decadal highs while the gross non-performing asset (GNPA) ratio has fallen to a multi-year low.

Mutual Funds

Backed by a surfeit of new fund offers (NFOs) and continued active participation of households, the mutual fund (MF) sector experienced robust growth in 2024-25 (up to November 2024). Total assets under management (AUM) rose by 38.8% (y-o-y), touching an all-time high of Rs 68.1 lakh crore in November 2024. The AUM rise was driven by equity schemes (sectoral/ thematic schemes in particular), with annual growth nearly 1.5 times the increase in non-equity schemes.

Insurance Sector

The solvency ratio of an insurance company assesses its ability to meet its obligations towards policyholders by reflecting the level of its assets over and above its liabilities. The higher the solvency ratio, the better the ability of the insurer to meet its liabilities.

The Insurance Regulatory and Development Authority of India (IRDAI) has set the minimum solvency ratio requirement for insurance companies in India at 150%. As insurance liabilities are contingent upon future events, a higher solvency ratio implies the resilience of the insurer to withstand future uncertainties.