War for deposits will intensify

While driving from the Chhatrapati Shivaji Maharaj International Airport to Bandra Kurla Complex, Mumbai’s second business district, on the Western Express Highway, large billboards on rising deposit rates of banks scream for attention. When did you last see such a war for deposits?

I have checked with many bankers, and even central bankers. None of them can recall when. There might have been skirmishes for deposits in the past, but not a war of such scale. A vibrant social media is also making us aware of its intensity. A few months ago, a short video clip showing Canara Bank hawking deposits in a Mumbai suburb went viral on WhatsApp.

The Reserve Bank of India (RBI) gave banks the freedom to decide on rates for fixed deposits in the mid-1990s; the savings bank rate was freed in 2011. On the current account, customers don’t earn any interest.

In calendar year 2022, the banking sector’s deposit pile grew 9.2 per cent — about half of its credit growth of 14.9 per cent. In 2021, deposit growth was 10.3 per cent, higher than the 9.2 per cent credit growth.

Since the heap of deposits is far bigger than that of credit (Rs 177.3 trillion as on December 30 versus Rs 133 trillion), let’s take a look at the absolute figures. In 2022, the deposit portfolio grew by Rs 14.9 trillion in contrast to a credit growth of Rs 17.6 trillion. In the previous year, the deposit portfolio had grown by Rs 15.1 trillion, while credit growth was Rs 9.8 trillion. We need to consider that 22.5 per cent of deposits is to be set aside in the form of cash reserve ratio and statutory liquidity ratio, and only 77.5 per cent can be used to fund credit.

Going by the half-yearly earnings, of the 12 public sector banks (PSBs), only four recorded double-digit deposit growth in the past one year (till September 2022), and barring one, most have healthy credit growth. One small PSB’s credit growth has been 30 per cent against 8 per cent deposit growth; for another relatively large PSB, the credit growth is 12 per cent, six times its deposit growth. Most private banks, too, have seen far higher growth in loans than deposits. For one of them, it is five times more.

There are many contributing factors to this phenomenon.

Across the globe, we saw a liquidity sugar rush after the Covid pandemic hit the world. India is no exception. As the economy returned to the growth path, the RBI started the normalisation process last year. At its peak, there was close to Rs 10 trillion surplus liquidity in the system in September 2021. Now, the surplus is around Rs 1.8 trillion. In October 2022, the systemic liquidity was either flat or marginally negative.

What has added to the drop in systemic liquidity is the flight of capital. India’s foreign exchange reserves were $642.45 billion in the first week of September 2021. In the second week of January 2023, the reserves were $572 billion, after surging $10.42 billion in the week ended January 13. Of course, depreciation in currencies in the reserve vis-à-vis the US dollar has also contributed to depletion in reserves. When the RBI sells dollars to stop rapid depreciation of the rupee due to excessive demand for dollars, the rupee liquidity in the system gets sucked out.

In addition to this, in the past one year, currency in circulation has risen by Rs 2.4 trillion to Rs 30.35 trillion. This also reduces liquidity.

Growing financialisation is another contributing factor for lower bank deposit growth. As of December 2022, the mutual fund industry’s total assets under management were to the tune of Rs 39.88 trillion. Three years ago, in December 2019, the heap was Rs 26.54 trillion. In the past few years, the number of demat accounts has also been on the rise, illustrating savers’ growing interest in direct exposure to equities.

Despite offering incentives, banks have not been able to attract NRI deposits due to rising rates in other geographies. There are three types of NRI accounts — non-resident (ordinary) rupee account or NRO account; non-resident (external) rupee account or NRE account; and foreign currency non-resident (bank) account or FCNR (B) account. The freely repatriable FCNR (B) accounts are kept in foreign currencies, but the two rupee deposits are exposed to the risk of a depreciating local currency.

The rising global rates have dented the NRIs’ interest in keeping money in Indian banks. For the same reason, corporations are not raising funds through the external commercial borrowing, or ECB, route. That’s contributing to the rise in banks’ credit growth. Once they start raising money through ECBs, the pressure on banks to meet the credit demand will ease. This will happen when the cost of domestic loans rises further; at the current level, rupee borrowing works out cheaper than ECBs for good corporations.

While we wait for that to happen, how will the scene unfold for banks and their customers?

Credit growth, which was around 18 per cent a few months back, has already slowed to 14.9 per cent. It will probably end the financial year around the current level and even drop below that in the next year, which starts in April, as some of the corporations begin exploring the ECB route. Besides, some of the banks may be forced to apply a brake to loan disbursements if the deposit growth does not pick up.

The banking system has invested much more in government bonds than what is required under the RBI norm. They can liquidate part of it to generate liquidity and support the credit growth. Of course, we need to see the scale of government borrowing in the next financial year. A recent report by rating agency ICRA estimates gross market borrowings of the Centre at Rs 14.8 trillion and the combined Centre and state borrowings at Rs 24.4 trillion for FY24 — higher than the estimated market borrowing target of Rs 14.1 trillion and Rs 22.1 trillion, respectively, in the current year. A few other agencies estimate even higher market borrowing in FY24.

If the government continues to borrow so much to bridge the fiscal deficit, the banks will have little choice but to pick up the bonds. We also need to see whether the RBI buys bonds through the so-called open market operations as high government borrowing will crowd out private investments.

Overall, the level of the systemic liquidity will depend on the resumption of capital flows, the RBI’s approach to the level of rupee vis-à-vis dollar (for every dollar it buys, an equivalent amount of rupee flows into the system and dollar sale sucks out rupee), and whether the government is spending or sitting on cash.

Banks’ inability to meet the credit demand may give a fillip to the corporate bond market, which has not been growing the way it should despite regulators’ big push.

At the moment, banks have little choice but to raise the deposit rates. If 2022 was a year of three Cs — the relentless fight against cryptocurrencies, CBDC (central bank digital currency) taking baby steps, and a decadal high growth of bank credit — 2023 will be a year of D — deposits.

The banking system has taken the saving community for granted for too long. For most banks, the liability part of the balance sheet has been on auto pilot and the strategies have evolved around credit growth (and recovery of bad loans). Now, the story has to change. Incidentally, the growth in fixed deposits is higher than in demand deposits (saving and current accounts). The possible reason could be rising rates.

 A recent Motilal Oswal report estimates the gross domestic savings to GDP ratio in the first half of FY23 at a 19-year low of 26.2 per cent. It sees the ratio at 27-29 per cent in FY23 and 28-30 per cent in FY24. More than a decade back in FY2011, it was 36.9 per cent. This lowering trend in savings has not affected us much in recent years as there was a deluge of money due to the ultra-loose monetary policy pursued by global central banks. As the policy is reversing, higher rates for domestic savers are inevitable. Bank billboards are telling that.

The writer is an author and senior adviser to Jana Small Finance Bank Ltd

His latest book is Roller Coaster: An Affair with Banking

To read his previous columns, visit https://bankerstrust.in

Twitter: TamalBandyo