A “prime” borrower in banking parlance is one with a good credit history and an excellent repayment track record. “Subprime” refers to below prime, or customers who have questionable or limited credit histories. This market, which came into focus during the 2008 financial crisis, originated in the US in the 1990s to extend home, car and other loans to subprime customers, who typically pay higher interest charges than the prime customer to compensate for the riskiness of these loans. From 2000 until the bankruptcy of Lehman Brothers in September 2008, this market expanded along with the housing boom in the US. The unsaid assumption among bankers was that even although subprime customers may have a questionable repayment capability, the appreciation in price of underlying assets such as home (on which loan is given) would rise in the future, providing enough security for the loan. In the Indian context, credit information bureaus assess the repayment track record and financial history of customers. CIBIL, for instance, assigns a score based on an individual’s credit behaviour as reflected in accounts and statements. This score ranges from 300-900 and a score above 700 is generally considered good by Indian lenders. While there is no explicit concept of subprime customers in India, an individual with score substantially below 700 could be put in the subprime category. A low score could also be due to lack of financial history of the individual, even though he/she may have good repayment capacity. In the US, many of the subprime loans extended in the years before the 2008 global financial crisis were based on an adjustable interest rate. This allowed borrowers low payment in initial years, and higher and rising repayments after, say, 3 to 5 years. These loans were also pooled and packaged together, to be sold to financial investors. These pooled loans were the key source of global financial collapse.
Non-financial debt: India doing better than many others
At a time when economies such as Turkey, Argentina, Russia and South Africa are facing a storm on account of their plummeting currencies, India appears to be in a much better position in terms of managing its external vulnerabilities, specifically with regard to the external debt to GDP ratio.
While the currency turmoil has raised anxieties about the world’s biggest emerging market economies, one of the best metrics to track this is by calibrating a country’s non-financial debt as a percentage of GDP. The term non-financial debt denotes the aggregate debt owed by households, government bodies, non-profit organisations, or any corporation that is outside of the financial sector. This can include loans made to households in the form of housing loans, amounts outstanding on credit cards or other loans, as well as bank loans to companies or outstanding corporate bonds.
While the vulnerability of Turkey might keep potential investors away, a report on the subject in The New York Times notes that the amount of hard-currency debt to be paid off is only part of the story. The level of interest rates, the reliance on foreign borrowers, refinancing needs, the size of government deficits and the stockpiles of foreign currency that can be used to push back market pressures all play a role. Perhaps most important and most difficult to measure, the report adds, is a country’s credibility with financial markets. “If investors believe a country will continue to pay its bondholders in a currency that retains its value, they will likely put up with even the ugliest-looking levels of debt,” the report says.
Household, corporate and government debt that must be paid in foreign currencies as a share of GDP