The Nifty Bank Index hit an all-time high of 41,209 points last Wednesday. Sustained bank credit growth and relatively healthier bank balance sheets are driving the index. But that shouldn’t suggest banks have found their sweet spot, yet.
They are faced with a problem that they have not encountered for several decades: a strong demand for credit but a weak accretion of deposits.
The latest data released by the RBI indicates that demand for bank loans is at its highest level in nine years. With ₹5,660,000,000,000,000 in loans extended by banks year-to-date, credit growth is up 4.8% YoY over the period, from a contraction of -0, 5% during the corresponding previous period.
Growth in deposits was 9.5% year-over-year for the week ending August 26, 2022. This is well below the average of the last three which was around 13%. The combination of rapidly shrinking liquidity in the system and depositor restraint may limit banks’ ability to increase lending aggressively.
But here is some good news. Deposit rates could head towards 2018 levels of 7.25-8.5% for a 3-year term. Currently, they oscillate between 5.5 and 6.25%. In short, if banks raise their lending rates alongside repo rate hikes, deposit rates should also catch up quickly in the cycle.
In a recent interview with Activity areaAxis Bank’s Managing Director and CEO suggested that with excess liquidity in the system likely to be depleted in the coming months, deposits will once again be a big part of the liquidity mobilization process.
The price revision has already gained momentum. Until the beginning of August, the increase in deposit rates was quite small at 30-60 basis points, while the repo rate has already risen from 4% to 5.4%, up 140 points basic. But over the past few weeks, YES Bank, Axis Bank, Bank of Baroda, ICICI Bank and Union Bank of India have raised fixed deposit rates by 30 to 50 basis points, the lag between rising repo rates and rising deposit rates are gradually reduced. From around 80-100 basis points in July, it has narrowed to 60-80 basis points.
Still, a sharp accretion in deposit momentum could still be 6-9 months away.
Shanti Ekambaram, Group Chairman and Director of Kotak Mahindra Bank, says that today, depending on investors’ risk appetite, there are various investment options and deposits are no longer the only ones. As India recently surpassed the 10 crore demat account mark and Systematic Investment Plans (SIPs) offered by mutual funds have become a popular investment product, bankers say SIPs could give fierce competition to deposits, especially on the retail side.
Additionally, bankers believe depositors may also be on the sidelines to see if banks fully pass on the hikes before taking the plunge. For now, banks are modeling another 75 basis point rise in the repo by March 2023, after which they expect the rises to slow down somewhat. “From January we should see faster growth in deposits,” said a private banker who did not want to be named.
Impact on banks
Most private banks, with the exception of Axis Bank and YES Bank, operate with a net interest margin (NIM, a measure of profitability) of more than 4%. With demand remaining robust, banks believe they are well placed to fully pass on repo rate hikes to lending products and this has gone well so far.
Return on assets also remained stable at 8-10%. In fact, the top 10 banks have been quite cautious in using their deposits over the past two years and appear to have exploited systemic excess liquidity to increase their loan portfolios (see chart). With the exhaustion of this factor and the increase in deposit rates, profitability could be a little shaken. For now, banks are preparing for a 5-15 basis point cut in the NIM.
September 17, 2022