Tamal Bandyopadhyay: Where have all the depositors gone?

With banks lending Rs 1.15 for every Re 1 of new deposits, it's crunch time at most banks

Around this time last year, the heads of commercial banks were trying to work out strategies to woo customers, big and small, to lend money to. Today, the same bankers are getting a lot more cautious about lending.

It's not that the loans are getting more risky, it's just that the bankers are rapidly running out of money to lend as the scorching pace of credit growth is not matched by the growth in deposits.

Indeed, for every one rupee that banks are getting in terms of additional deposits in savings or current accounts, bankers are lending Rs 1.15, and the balance is being drawn out of running down their investment accounts.

While banks invested an additional Rs 1,34,400 crore of funds in buying government bonds in the year ended July 2, 2004, this fell to a mere Rs 22,600 crore in the year ended July 2, 2005.

Indeed, while the statutory liquidity ratio (SLR), or investment in government securities, was around 40 per cent for banks last year (in comparison with the required ratio of 25 per cent), this has been drawn down to around 30 per cent today as banks are liquidating their securities (or buying less new ones) and using the funds to lend to industry.

On year-on-basis basis, as on July 2 this year, the banking system's credit portfolio grew by Rs 2,82,500 crore, or by around a third as compared to last year, and significantly higher than the Reserve Bank of India's (RBI's) estimate of around 19 per cent. In contrast, the system's deposit liability grew by Rs 2,27,400 crore, a little under 15 per cent.

In percentage terms, deposit growth is always lower than credit growth since deposits are always larger than loans "" the outstanding deposit portfolio of all scheduled commercial banks is Rs 17,89,900 crore, as compared to the credit portfolio of Rs 11,61,400 crore "" but the problem has now got quite serious since, even in absolute terms, credit growth is much higher than deposit growth.

The banking system's overall credit-deposit ratio is now 64.89 per cent, possibly the highest over the past five decades or so. On an incremental basis, over the past one year, the credit-deposit ratio is over 100 per cent. This means, for every Re 1 of deposit mobilisation, the banks are actually giving a credit of Rs 1.15 or so. This cannot continue for long since the banking system will soon run out of resources.

Apart from deposits, banks use their capital, too, to support the credit growth. But there is a limit to what extent their capital can grow annually. So far, they have been able to lend so much by releasing resources locked in their investment in government securities.

Under the RBI rules, banks are required to put in 25 per cent of their liabilities in government securities, popularly known as SLR (statutory liquidity ratio) holdings. In a low interest rate regime, which ruled the industry over the past five years or so, the banks chased government securities to make money. However, with the first sign of interest rates hardening, they started liquidating their government bond portfolio.

Another way of generating resources is accessing the refinance facilities from the National Bank for Agriculture and Rural Development (Nabard), Small Industries Development Bank of India (Sidbi) and National Housing Bank (NHB) for lending to agriculture, small-scale industries and home loans.

The cost of the refinance facility works out slightly cheaper than deposits since this kitty does not attract 25 per cent SLR investment and 5 per cent cash reserve ratio (CRR) kept with the RBI. However, this refinance facility, too, is not limitless.

Once the banks have exhausted their capital and refinance lines and liquidated their excess SLR holdings, they will be left with no resources to support their credit growth. To add to their woes, the liquidity in the system has slowly been drying up.

The excess liquidity in the money market (reflected in reverse repo bids) that was close to Rs 17,000 crore in the last week of June has come down to Rs 3,600 crore today.

Since the banks are not ready to go slow on the credit track (even though the RBI seems to be concerned about overheating in the economy), the best way to tackle the situation could be going all out to mobilise deposits. However, that is easier said than done.

With the stock market on a roll, people have started looking at mutual funds closely to park their money. Besides, the interest rates on small savings and provident fund are far higher than bank deposit rates and hence they continue to attract bulk of public savings.

The Public Provident Fund rate now stands at 8 per cent. Ditto for the National Savings Certificates-VIII. The post office recurring deposit offers 7.5 per cent. In contrast, the yield on long-term bank deposits is 5.5 per cent to 6 per cent.

Besides, every rupee earned on bank deposits as interest is taxable. Unless the government steps in to make bank deposits more attractive (possibly through some tax sops on long term deposits), the current credit growth cannot continue.