One of the big mysteries in the Indian economy currently is the persistently low credit growth, which fell further after the government’s demonetisation drive in November.
After struggling along at just under 10 percent for almost a year, credit growth fell to under 5 percent starting November, according to fortnightly data released by the Reserve Bank of India (RBI) the value of loans in India increased 4.1 percent year-on-year in the two weeks to March 3rd 2017. Loan Growth in India averaged 12.41 percent from 2012 until 2017, reaching an all time high of 18.70 percent in April of 2012 and a record low of 4.10 percent in March of 2017.

According to Nomura true credit growth is closer to 7 percent. That’s not to say that it isn’t weak. Just not as weak as what the bank credit data suggests.
RBI credit data (3.7 percent year-on-year growth in January ’17) does not capture the impact of bond substitution and State Electricity Board (SEB) loan conversions. The corporate bond book has been growing at 16-18 percent year-on-year for the past 12 months, and Rs 1.7 lakh crore of SEB loans have been converted into bonds under UDAY scheme over the past 6-7 months. Adding this up, they estimate that overall credit growth is 6.7 percent year on year and industry and services credit growth is 5.6 percent year on year (1 percent contraction as per RBI).
While saying that growth in bank loans may be understating the actual demand for credit in the economy, Nomura goes on to say that there are fundamental reasons for subdued credit demand. This includes the deleveraging of corporate balance sheets.
Three sectors – infrastructure, metals and textiles – contributed 30-25 percent of total incremental credit in the financial year (FY) 2007-08 to FY14 period, when bank credit was growing at 17 percent year on year. Adjusting for these sectors, credit growth was closer to 12-13 percent. Credit demand from these sectors (excluding SEBs) is now down to zero, which is bound to impact overall demand for loans.Ambit Capital  points out that banks have lost nearly 5 percent points in market share to bond markets over the past two years. This was partly because of the rate advantage in the markets and this shift from bank loans to bond market will only acclerate thereby pressurising the Net Interest Margin of banking system.