Weakest Deposit Growth Since 1963 Means Higher India Rates

  • Funds shortfall can keep loans costly, trigger debt selloff
  • Fitch sees FY17 deposits rising 13% versus 15% loan growth

India’s bank deposits are growing at the slowest pace in half a century, frustrating attempts by policy makers to lower one of the highest borrowing costs among emerging markets.

Savers parked about 94 trillion rupees ($1.4 trillion) with banks in the year through March 31, the smallest increase since 1963, according to ICRA Ltd., the local unit of Moody’s Investors Service. A continued slowdown may keep lenders from passing on policy rate cuts to customers, and could also compel them to sell holdings of government bonds to raise more cash.

"The ability of banks to cut cost of funds and bring down interest rates will be limited,” said Madan Sabnavis, chief economist at Credit Analysis & Research Ltd. in Mumbai. Since India’s economy is driven by bank credit, the lack of cheap funding will constrain growth, he said.

Prime Minister Narendra Modi is seeking lower interest rates to spur investment and help banks clean up piles of bad debt. While India is the world’s fastest-growing big economy, the slowdown in deposits is yet another sign that its expansion is far below potential.

The lackluster deposit growth is part of a vicious cycle that’s preventing economic growth from taking off. Manufacturing slack -- highlighted by falling factory output and a record drop in exports -- has damped corporate profits and loan demand, depriving banks of the ability or need to lure more deposits.

While credit growth has picked up from a 20-year low to more than 11 percent, it’s still far from peak levels of almost 36 percent in 2005. Fitch Ratings sees credit growth of around 15 percent and deposit growth of 13 percent in the year through March 2017.

"When credit starts to move faster we might see a pickup in deposit growth," said Gaurav Kapur, an economist at Royal Bank of Scotland Plc. "But that cycle is at least a year away.”

Black Money, Gold

Reasons for the slowdown include insufficient job creation, alternate investment opportunities and the government’s clampdown on so-called “black money" that has evaded tax authorities, according to Anjali Verma, an economist at PhillipCapital Ltd.

State Bank of India, the nation’s largest, now pays 7.25 percent on one-year deposits, compared with a 9.4 percent return on gold over the past year. A 15 percent plunge in the benchmark stock index in that time has also improved valuations.

Company profits have declined in four of the last five quarters, the worst run since the financial crisis, and the government has announced programs allowing citizens a one-time amnesty from prosecution if they declare undisclosed income. Elections in five Indian states could have contributed to a spike in cash in circulation, central bank Governor Raghuram Rajan said April 5.

"My sense is this will take a little bit of time before deposits start coming back up," Rajan said. "But I think that even with 9-9.5 percent growth it is nothing to be sneezed at, it is reasonable growth."

Bond Yields

Banks have the option of paring holdings of government debt to offset the drop in deposits. That stands to increase the yield on sovereign bonds, which are already among Asia’s worst performers this year.

Moreover, liquidity regulations will constrain the amount banks can sell, said Saswata Guha, director for financial institutions at Fitch Ratings Ltd. He estimates that banks have invested about 27 percent of their deposits in government bonds compared with the minimum 21.25 percent mandated.

Until then, loan rates will stay relatively high, he said, adding that banks have passed on only 40 percent of the cut in benchmark rates to borrowers.

State Bank of India cut its one-year deposit rate 125 basis points from Jan. 1, 2014 to March 31, 2016, mirroring the reduction in the policy rate during that time. By contrast, its minimum lending rate fell by only 70 basis points, reflecting a lack of transmission that prompted Rajan to implement new rules for commercial lenders to set rates. Those took effect on April 1.

"Any room for further transmission is limited as deposit rates cannot move down meaningfully," he said.

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