Macro implications of credit card prolification and the effect on household financial obligations - lessons for India from the US experience

Abstract

EXECUTIVE SUMMARY For every Rs 100 spent on consumption in India, only 60 Paise is routed through credit cards i.e., about 0.6% of personal consumption expenditure is met through credit cards. The comparable figure for the United States is 16%. India thus has a long way to go before it catches up with the US. However with a 35% CAGR in credit cards, the Indian economy is fast moving towards greater credit card proliferation. The US experience with credit cards has been mixed. With the increased proliferation of cards as a payment system, the economy faced a rising percentage of revolving credit as a proportion of its overall household debt obligations. However, empirical study and economic theory has shown that the net effect of a financial innovation like the credit card is to improve growth rates in the economy and stimulate demand and supply. They do not affect the overall obligation ratios. An important learning from the US system, for India is the regulatory framework and the concept of a free and fair credit report. US regulations are mainly meant to protect the consumer from unfavorable circumstances and preying creditors. The true impact of these laws is realized through consumer education and awareness and expeditious judicial proceedings. The Indian regulatory authorities have taken a few proactive steps to address the growing market for cards. These steps are critiqued on a number of parameters, based on the existing rules in the US. Based on an analysis of the market trends in the two economies, we have attempted to assess the future potential of the market in India. The macro economic differences between the two economies are too stark to not notice. With a population of more than 3 times that of the US, India appears to be better suited to expand its markets. However, an important aspect in any financial market is to ensure adequate protection is taken against risks. India would be better served if efforts are guided towards growing the customer base rather than offering multiple cards to users since that would avoid increasing the risk profile of the assets. The market in India is still at a nascent stage and once steady state is achieved scope for innovations are immense in India due to its varied customer segments and strong wireless infrastructure networks. In macroeconomic terms, India’s high savings rate has meant that increase in credit card expenditure would require a clear rise in income levels of the user segment. With a much higher savings rate than US, higher cost of credit in India as illustrated by the Prime Lending Rate creates further inhibitions in the mind of consumers towards using credit cards. With more than 80 million potential households and 14 million cards in circulation, there exists immense potential for growth of credit cards in India. However, India is unique in the sense that portfolio of cards, types of market players, maturit y of acceptance networks, fraud recourse mechanism, raison d'être of using plastic money and bankruptcy laws differ hugely from that of US. As total credit card usage is expected to rise as much as US $84 billion, India stands to benefit from such expansion. This would facilitate financial transparency and efficiency while generating newer options for government payments and collections. Other aspects of the economy that stand to gain include the sustenance of small business enterprises, increasing revenues from tourism and the endeavour to include the un-banked population in the organized banking system