Why the Indian economy suffers when you save less

India’s overall savings rate has declined to 30% from 34.6% over five years, ending FY2016-17. The worst dip was seen in the household sector, the largest contributor to savings in the economy, dropping to 16.3% from 23.6% over the period, said a report titled Arth Samvaad by India Ratings and Research. The household savings rate is the difference between a household’s disposable income and expenditure. The overall savings rate is the amount an organisation or a person places in the savings account or a similar tool as a percentage of total disposable income.

If household savings continue to decline, it may pose a serious challenge to the GDP growth and macroeconomic stability, says the report. Savings are indicative of how much the people of a country are likely to invest because more the savings, more the investment. Households contribute more than half the total savings in the country, followed by private corporations and the public sector.

In the five years, the household sector accounted for an average 60.93% of the economy’s total savings (see graph). Households include resident households and unregistered micro, small and medium enterprises (MSMEs).

“To boost savings, there needs to be an improvement in access to finance for households across the country. We need to make households trust financial markets so that savings can move from physical to financial assets which would generate better returns,” said Renuka Sane, associate professor, National Institute of Public Finance and Policy.

Between FY12 and FY17, household investments took a back seat which could be due to the fall in household savings. The report says, one of the key reasons for this was tighter financial conditions. The impact of demonetisation and GST was the most on household sector as investments from MSMEs took a hit.

Nearly three-fourths of household savings is into real estate. In the last few years, returns from real estate investments have suffered, affecting household disposable income.

Household savings are mostly intermediated by banking and other non-banking financial entities, which are the major source of investment funding in India. So, a further drop in household savings can impact the economy.