Loan carrots hurt banks

Believe it or not, some banks are actually taking one-year deposits offering an interest rate of over 7 per cent and lending money at an interest rate of about 6 per cent, losing money in the process.

This is being done in order to bolster their deposit and loan portfolios as financial year 2004-2005 draws to a close.

One state-owned bank is offering the highest rate of 7.25 per cent for one-year bulk deposits. Even private banks are aggressively trying to garner deposits.

Over the last few months, the deposit rates have climbed by 1-1.5 percentage points as banks are eager to increase the size of their balance sheets.

Reaping the benefit of the balance sheet building spree are fund flush corporations like Indian Railways Finance Corporation, Power Finance Corporation, Gas Authority of India Ltd and the Housing and Urban Development Corporation.

Senior bankers say that some companies that have huge sums of surplus cash are borrowing money from a bank at an interest rate of 6.25 per cent and parking the money with another bank to earn 7.25 per cent, making a clean spread of 1 per cent.

"The rates in the market today are ridiculous. Banks that have a short-term view are getting into this, compromising on their net interest margin," said the treasury head of a state-owned bank. Banks earn their core income from the interest rate differential between the rate at which money is lent and deposits are taken.

So lending money at a 6.25 per cent interest rate after taking a deposit at an interest rate of 7.25 per cent translates into a negative spread of 1 per cent. This is, however, a short lived phenomenon and is normally witnessed towards the end of the financial year.

"We are getting frantic calls these days from corporates as the year end nears. Everybody is eager to make use of the year-end phenomenon," said a senior bank official.

"First, we spell out the deposit rate and then the lending rate -- which is lower than the first. It is ridiculous but there seems to be no end to this on account of peer pressure," admitted the credit head of a bank.