While the banking sector has been going through a difficult period in recent years due to large-scale NPAs, irregularities and fraud, a new syndrome of deposit decline has emerged this year, foreshadowing future structural liquidity problems. I’m letting you do it. According to the RBI, by the end of the first quarter of 2024, when credit grew by 17.4%, deposits grew by 11.1% year-on-year and the credit deposit ratio reached its highest level in the last 20 years. The contribution of CASAs (current accounts) declined from 43% last year to 39% this fiscal as savers were lured by the stock market, mutual funds or other high-yield investment vehicles.
It is clear that depositors who once considered the banking system safe and profitable are now moving to capital markets and other financial intermediaries such as mutual funds, insurance funds and pension funds. Many fintech and financial companies offer attractive high-return products with low tax rates, making bank deposits an unwise option for investors. In response, banks launched equally profitable products at competitive prices. As a result, there has been a paradigm shift in the savings and investment narrative, with deposits naturally declining. Lower tax rates, higher yields, and exit flexibility are key determinants of personal and household savings, which typically account for the majority of bank deposits.
On the other hand, an increase in credit prior to an increase in deposits implies negative consequences such as a credit crunch, a liquidity crisis, higher borrowing costs from other sources, and a consequent decline in profitability. , which bodes well for the health of the banking sector. Furthermore, a decline in deposits leads to a decline in banks’ ability to respond to credit risks, which also affects their financial stability. Private sector banks (PVBs) will bear the biggest brunt as they operate with higher LDR (deposit-to-deposit ratio) compared to public sector banks (PSBs). Some banks began selling loan books to maintain liquidity.
The decline in deposits is not limited to banks in developing countries, but is also seen at European financial institutions. According to S&P Global Market Intelligence and European Central Bank data, deposits in France, Germany, Italy, the Benelux and the Nordic countries will fall by 3.9% year-on-year to 21.675 trillion euros by June 2023, with Spain leading the way. This shows that the decrease was the largest. , it was 9%. Banks’ inability to pass on higher interest rates to depositors, along with other factors such as rising interest rates, increased customer pricing concerns, and changes in funding structures, has led to banks shifting funds to higher-yielding products. This is considered to be the main factor contributing to this. But the drop in deposits is more ominous for banks in developing countries, which lack financial stability compared to banks in developed countries.
Lack of innovation and poor product diversification in the Indian banking sector are said to be the main reasons for the decline in deposits. To reverse this decline, economists suggest banks put more emphasis on mobilizing small deposits and leverage their branch networks to build a broader deposit base. Unfortunately, banks show little enthusiasm for ‘financial inclusion’ unless mandated by government schemes. Yet their involvement is often perfunctory. Lenders still control about 70% of credit in the informal sector, and most of them are black.
Small and marginal farmers, micro-enterprises, grocery and snack shops, and family-run occupations continue to rely on local moneylenders, often referred to as ‘usurers’, for loans of up to Rs 2 million. $100,000, with interest rates ranging from 15% to 30%. Reaching out to these segments will help banks build a strong customer base with stable deposits. Research shows that poor people withdraw income from their employers and use that cash for informal financial services to meet their survival needs. Banks need to address the “perceived benefits challenge” by bridging the gap between financial literacy intentions and reality.
Thorsten Beck (Professor of Financial Stability, European University Institute), Vasso Ioannidou (Professor of Finance, Bayes Business School), and others. (https://cepr.org/) proposes two policy options: tweaking existing regulation and supervision and influencing major structural changes. The former focuses on liquidity checks, monitoring uninsured depositors, providing higher capital buffers to increase banks’ resilience, risk-based pricing of deposit insurance, etc., while the latter focuses on narrow Includes banking (100% reserve requirement) or secured deposit financing, contingency measures. They include introducing automatic top-ups to limit withdrawals in the event of large outflows and extending deposit insurance coverage to all deposits as a way to withstand unexpected crises. However, for banks in developing countries, especially ‘narrow banking’, these options can be difficult choices as they undermine social benefits. Furthermore, persistent problems such as bureaucratization and lack of professionalism may hinder reform. However, in the long term, banks can work hard to restore credibility through increased transparency and professionalism, while in the short term, to address deposit declines, (i) Three basic areas are likely to be prioritized: (ii) amending liquidity requirements; (ii) strengthening requirements; improving oversight of liquidity and funding positions and (iii) how funding vulnerabilities are incorporated into Pillar 2 liquidity and capital guidance calculations;
Part of the responsibility must lie with financial markets, as they often lack self-regulation. Peter Lee, editorial director at S&P Global, raises the question of who should set the short-term money prices that underpin financial markets: central banks or private market leaders. In a capitalist economy, prices are determined primarily by market forces, but in a welfare state like India, state intervention is essential. Effective management of money markets and improved regulation of capital markets by the RBI and SEBI, respectively, within their various legal jurisdictions will help curb the flight of deposits to riskier alternatives. Masu. Although market corrections help adjust the flow of funds between deposits and investments, a downturn in the stock market does not necessarily lead to an increase in deposits. On the contrary, it could trigger a boom in the gold market and attract depositors.
State intervention is necessary to maintain harmony between financial markets and banking institutions. The return on investment (ROI) between various financial instruments must be controlled through checks and balances to ensure balance between deposits and other financial instruments. For example, increasing the securities transaction tax (STT) on futures from 0.0125% to 0.02% and on options from 0.0625% to 0.1% is an effective measure to control the stock market. Similarly, increasing short-term capital gains tax from 15% to 20% and long-term capital gains tax from 10% to 12% would be a wise move. For example, why does an FD give a much lower return when a PMS pays out three times as much for the same amount? Tax parity and proper price control between financial instruments are worth serious consideration There is.
The author is a former Addl. Chief Secretary of Chhattisgarh. The views expressed are personal
