Analysis of fluctuations in Credit-Deposit Ratio of Indian States: From Pre-Globalization to Post-Financial Crisis Phase

Analysis of fluctuations in Credit-Deposit Ratio of Indian States: From Pre-Globalization to Post-Financial Crisis Phase

Ramesh Chandra Das (Vidyasagar University, India) and Utpal Das (Katwa College, India)
DOI: 10.4018/978-1-5225-7180-3.ch013

Abstract

Under the backdrop of the liberalization and globalization policies undertaken by the Indian government and the outbreak of the global financial crisis, the present chapter tries to study the trends, fluctuations, and ranking of the credit-deposit ratio of the Indian states for the period 1972-2015 comprising pre-globalization to post-financial crisis phase. Applying descriptive statistics, product moment and rank correlation coefficients, and student's “t” test and “F” tests, the results show that there are significant increases in the credit-deposit ratios of most of the states during the phase of financial as well as post-financial crisis phase compared to pre-globalization and post-globalization periods, but there were significant fluctuations in credit-deposit ratio in the financial crisis and post-financial crisis phases. Further, the rank correlation results show that the states maintained almost similar ranks in their credit-deposit ratios for the phases of pre-globalization, post-globalization, pre-financial crisis, and post-financial crisis. The study, thus, suggests that the Indian banking sector has not been affected adversely.
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Introduction

There are historical debates between the supply side economists, the classical school and its followers, and the demand side economists, the modern schools led by J. Schumpeter and later, J. M. Keynes, regarding the necessity of the financial sector in economic developments of an economy. Adam Smith did not consider that the financial sectors had any sort of influence upon the production activities and so growth of a nation. Smith, in his famous book, “Wealth of Nations” pointed out that the farmers, producers and the businessmen are the important agents of economic growth. It was the business enterprise, competition and free trade that would lead the farmers, producers and the businessmen to expand market size and which, in turn, made the economic development inter-related. Schumpeter (1911), on the other hand, postulated the counter argument. According to him, society progresses through the trade cycle in a dynamic and discontinuous process. In order to break the circular flow, the innovative entrepreneur’s business activities are to be financed by expansion of bank credit. Schumpeter calls it as ‘creative destruction’-a process by which invention and innovation replace old production methods with the help of the financial intermediaries. Therefore, bank credit should have some impact on the performances of the real sector of the economy. Patrick (1966) is probably the first to define clearly the inter-relationships between bank credit and growth of output, especially for the undeveloped countries. According to him, there are two ways of explaining the inter-linkages between the bank credit and growth of domestic output. One of the ways, as he pointed out, is the Supply Leading Approach (SLA) and the other is the Demand Following Approach (DFA). Later there are a series of research articles that deal with the impact of financial sector in general and the banking sector in particular on the economic growth of a country. Some studies have shown that growth of the financial sector has a positive influence on the economic growth of an economy (Diamond, 1984; Greenwood & Jovanovich, 1990; King & Levine, 1993; Demetriades & Hussein, 1996; Jayaratne & Strahan, 1996; Beck et al, 2000). The study of Bhanumurthy and Singh (2009) has shown that the high growth of Indian GDP in the recent past has been, among others, due to financial inclusion. They have shown that branch expansion is not the proper indicator of financial development. In contrary, the proper financial indicator is credit-deposit ratio. They observed that there has been co integrated relation between credit-deposit ratio and State Domestic Product ratio.

There are some studies that are skeptical about the positive association between these two components. Lucas (1988) did not found any association between economic growth and finance and he termed the relationship between finance and economic development as ‘over-stressed’. Other related studies in this regard are Demetriades & Luintel (1996) and Sarkar (2009).

Key Terms in this Chapter

States: They are the provinces demarcated by the constitution of India. There are 29 states in India out of which the selected sixteen states constitute major states comprising about 95% of the total GDP and bank credits.

Global Financial Crisis: It is the worst economic crisis the world economy has experienced since the Great Depression of the 1920s. It out broke in the period of 2007-09 after the fall in Lehman Brothers in USA due to subprime lending crisis and it spread like flame all around the world, mostly to the developed nations, through the trade channels. The recessionary phase continued for many countries.

Standard Deviation: To measure degree of variability in the data set, we measure degree of dispersion in statistics. Standard deviation is the widely accepted measure of dispersion. It is the square root of the mean squared deviations from mean. The square of standard deviation is known as variance and the ratio of standard deviation to the mean or median of the values is known as coefficient of variation. Usually, we prefer the set of observation which has lower degrees of variability to ensure the power of test and efficient statistical results.

Liberalization: This is the policy of removing restrictions on international flow of goods and services. It was done in 1991-92 in India that included major structural reforms in all the sectors including the financial and banking sectors.

Banking Reform: It is the reform of the Indian banking sector under the objectives of solving the chronic nonprofit earning problems and strengthening of the overall health of the public sector banks to face international competitions. It was done in line with the recommendations of the Narasimham Committee formed in this purpose.

Mean: It is the average value of a set of observation. Suppose, a set of observation is 1, 2, 3, …, n, then mean or average value of the series ‘X’ is (1+2+3+…+n)/n. It is mostly accepted measure of central tendency in statistics as it fulfills maximum number of acceptability properties. The mean value of C-D ratio for a given year across the states is calculated by the summation of values of the C-D ratios across the 16 states and then divided it by the number, 16.

Credit-Deposit Ratio: It is the amount of deposit or net liabilities used for giving loans/credits/advances to other sectors for productive purposes. It measures the capacity utilization by a bank or a banking system.

Rank Correlation: It is the degree of associations between two sets of observations where the observations are arranged in terms of ranks or gradations. It is thus the measure to capture the degree of associations among qualitative variables. The formula has been given in the methodology section.

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