Term Deposits: Banks Must Offer Higher Rates

That's the only way to convince those who have money to return to the bank fold, ditching other asset classes, says Tamal Bandyopadhyay.

As of October 7, the banking system's deposit portfolio is to the tune of Rs 172.8 trillion and the loan book Rs 128.6 trillion.

During the current financial year so far, deposit growth has been 4.9 per cent in contrast to 8.1 per cent growth in credit.

This is in keeping with the trend of the past one year -- a 9.6 per cent deposit growth versus 17.9 per cent credit growth.

Indeed, the pile of deposits is far bigger than that of the banking system's loans portfolio but even in absolute terms, in the past one year, credit growth has been Rs 19.6 trillion against a deposit growth of Rs 15.2 trillion.

Incremental credit deposit ratio on the same date is 120. This means, for every Rs 100 deposit collected, banks are giving Rs 120 credit. The outstanding credit deposit ratio, however, is 74.45.

Typically, for every Rs 100 deposit, banks need to keep Rs 4.5 with the Reserve Bank of India in the form of cash reserve ratio (CRR) on which they don't earn any interest.

Another Rs 18 goes into buying government securities. (But banks have invested around 29 per cent of their liabilities in government bonds.)

After meeting the statutory reserve requirements, the banks are left with Rs 77.5 for giving loans.

But they can lend more as deposits are not the only source for giving loans. There are capital and reserves and borrowings from the market to support the loan growth.

Even then, the banks will soon find it difficult to maintain the current credit growth unless they are able to mobilise more deposits -- the mainstay of banking in India.

As I write this, many banks are in the market to raise short-term certificates of deposit to support their liability portfolio. Even the State Bank of India, the nation's largest lender, has tested the CD market recently.

There aren't too many choices before the banks. If you take a look at the September quarter earnings, you won't probably find even one bank whose growth in deposits equalled the growth in advances.

In percentage terms, for a few banks, the growth in deposits is even far less than half of the growth in advances.

In such a scenario, the obvious thing to do is raise the rates of term deposits. If you drive down the Western Express Highway in Mumbai, the billboards will give you a sense of the battle that is being fought on this turf. At least one public sector bank, based in the south, has taken to the streets, hawking term deposits in the Mumbai suburbs.

Besides term deposits, banks collect cheap current and savings accounts or CASA. While they offer the least on savings accounts, money in current accounts is free. This means, the more a bank has CASA, the less is its cost of money.

In the June quarter, Kotak Mahindra Bank Ltd had the maximum CASA -- 58.1 per cent of its deposits, followed by Jammu and Kashmir Bank Ltd (55.74 per cent) and IDBI Bank Ltd (55.65 per cent).

IDFC First Bank Ltd also had more than 50 per cent CASA, while ICICI Bank Ltd, HDFC Bank Ltd, Axis Bank Ltd, Bandhan Bank Ltd and IndusInd Bank Ltd had CASA between 46.9 per cent and 43 per cent.

Among the State-owned banks, Bank of Maharashtra had the maximum CASA (56.08 per cent), followed by Central Bank of India (51.15 per cent). Barring three -- Canara Bank, Union Bank of India, and Punjab & Sind Bank -- all other banks in this category had more than 40 per cent CASA. Punjab National Bank's CASA was 46.34 per cent and that of SBI 45.33 per cent.

CASA per se does not bring down the cost of deposits unless the percentage of CA (current account) is substantial within CASA. Similarly, one bank can pay to the savings account holders a higher interest rate than what another bank pays for term deposits.

Also, if the bulk deposits form a substantial part of term deposits, the cost goes up. Besides, banks also run the risk of bulk withdrawals.

This is why a few banks, including SBI, have a policy of capping bulk deposits at a certain percentage of total deposits.

While the battle for retail deposits is in the public domain, a fiercer war is being fought for bulk deposits. Corporations with deep pockets, including government undertakings, are auctioning their surpluses. In sealed envelopes, banks' quotes travel to their treasury managers' desks.

There is a funny side of this phenomenon. At least a few banks are giving loans to not-so-deserving government undertakings and collecting deposits from the same entities. The rates of deposits could be just marginally lower than, equal or even higher than the loan rates!

It's the same old story -- obsession for growing balance sheets at the cost of profit margins, driven by herd mentality.

While rising deposit rates will affect banks' net interest margin or the difference between what they pay to the depositors and earn from the borrowers, the other option to generate liquidity before the banks is to liquidate their investment portfolios.

Two years ago, in the first week of October 2020, the outstanding investment deposit rate was 31.19 while the incremental investment deposit rate was as high as 97.18.

In the pandemic-hit year, there was hardly any credit offtake, forcing the banks to put in most of their deposits in government securities. Now, the comparative figures are 29.55 and 46.48.

If they are forced to do this, the government's cost of borrowing will rise. In the Covid-hit FY2021, the gross borrowing of the government zoomed to Rs 13.7 trillion (net Rs 11.43 trillion), almost double of the previous year (when gross borrowing was Rs 7.10 trillion and net Rs 4.74 trillion).

Last year, it dropped to Rs 11.27 trillion (net Rs 8.63 trillion) before rising to its historic high of Rs 14.31 trillion this year (net Rs 11.61 trillion). On top of this, there are state development loans.

Everyone is talking about tight liquidity in the system in sync with the RBI stance of withdrawal of accommodation. The net liquidity deficit in the system was to the tune of Rs 98,312 crore on October 25. The government's reservation about spending is also contributing to this.

But money with the public or currency in circulation is rising fast. Just before the demonetisation drive in November 2016, Rs 17.7 trillion was in circulation. In six weeks, by the end of December, it shrank to Rs 9.2 trillion.

By October 7 this year, it rose almost three-and-a-half times to Rs 31.6 trillion. Typically, during the festive season and elections, it rises. (A small part of currency in circulation also includes cash kept in bank branches.)

The banks' job is cut out. Instead of blaming the liquidity crunch, they need to get a part of this money into their coffers by offering higher rates on term deposits. That's the only way to convince those who have money to return to the bank fold, ditching other asset classes.

Whether we like it or not, the RBI will raise the policy rate yet again in December. The challenge before the banking system is how to keep the net interest margin healthy in a rising interest rate cycle.

The credit engine is revving up. They need to oil their liability machine. Smart bankers know that managing liabilities is more important than assets in a banking business.

Tamal Bandyopadhyay, a consulting editor with Business Standard, is an author and senior adviser to Jana Small Finance Bank Ltd.