Every year, the Chief Economic Advisor of India (CEA) on behalf of the Central government publishes a detailed annual document right before the budget providing an overlook of the Indian economy. It is like a report card covering all the hits and misses, growth prospects, challenges, and policy recommendations on the Indian economy.
We will try to cover the key highlights related to the economy but first things first let’s see the outlook and views on the financial sector and markets in the report:
Financial sector
India’s banking and financial sectors have displayed a stellar performance in FY24. Double-digit and broad-based growth in bank credit, gross and net non-performing assets at multi-year lows
Capital markets are becoming prominent in India’s growth story, with an expanding share in capital formation and investment landscape on the back of technology, innovation, and digitisation. Indian stock market was among the best-performing markets, with India’s Nifty 50 index ascending by 26.8 per cent during FY24, as against (-)8.2 per cent during FY23.
While the outlook for India’s financial sector appears bright, some areas will require focused attention going forward. The significant increase in retail investors in the stock market calls for careful consideration. This is crucial because the possibility of overconfidence leading to speculation and the expectation of even greater returns, which might not align with the real market conditions, is a serious concern.
For a developing economy such as India, the financial sector needs to support the banking sector and fill the gap in capital required for the economy’s growth. Therefore, the financial sector should expand at a pace that is in lockstep with economic growth. In particular, India can ill-afford the economy’s over-financialisation at its current development stage. The increased retail participation in financial markets and familiarity with financial products are beginning to grow in line with India’s emergence as the world’s fifth-largest economy.
Markets related highlights
The number of unique tax IDs registered on the NSE rose from 2.7 crore in FY19 to 9.2 crore in FY24.
The enhanced participation of retail investors in the Indian capital market is hugely welcome and lends stability to the capital market. It has also enabled retail investors to earn higher returns on their savings. Most of the new retail investors are likely young and may have a higher risk appetite. It is also reflected in the interest that retail investors have shown in derivatives trading, especially expiration-day trading. While derivatives are hedging instruments, they are mostly used as speculative instruments by investors worldwide. India is likely no exception.
~ On derivatives
Derivatives trading holds the potential for outsized gains. Thus, it caters to humans’ gambling instincts and can augment income if profitable. These considerations are likely driving active retail participation in derivatives trading. However, globally, derivatives trading loses money for the investors, for the most part. Raising investor awareness and continuous financial education is essential to warn them of the low or negative expected returns from derivatives trading. A significant stock correction could see losses that are more considerable for retail investors participating in capital markets through derivatives. Investors’ behavioral response would be to feel ‘cheated’ by unseen more considerable forces. They may not return to capital markets for a long time. That is a loss to them and the economy.
The financialization of economies has not ended well, even for advanced economies. The global financial crisis of 2008 is an obvious example. Developing countries face debilitating crises when financial market ‘innovations’ and growth run ahead of economic growth. The Asian crisis of 1997-98 set back the high-flying economies of the region for a long time. Therefore, India needs to have an orderly and gradual evolution of the financial market
All stakeholders – market participants, market infrastructure institutions, regulators,
and the Government must ensure that capital markets play their theoretically assigned role of directing savings to their most productive investments. It is not just in the national interest. It is an act of self-interest, too.