Why decline in bank deposit growth calls for serious attention

Bank deposits grew 11.1 per cent as on June 28, 2024, from a year earlier, according to the latest data from the Reserve Bank of India. The deposits slipped well below the 17.4 per cent surge in credit, a situation not seen as sustainable.

This is not just a one-time decline of deposit growth of banks.

In the table below, deposit growth and credit growth of 10 quarters have been provided. Out of 10 quarters, the deposit growth percentage was less than that of credit growth percentage for nine quarters, which is not a healthy sign.

RBI Governor’s concern

RBI Governor Shaktikanta Das recently cautioned that deposit growth, which has been lagging credit growth for a while, may expose banks to structural liquidity issues. There has been a shift in customer preference from bank deposits to mutual funds, among other investments, he added.

“Households are increasingly allocating their savings to mutual funds, insurance funds and pension funds for deploying their savings instead of banks," he said.

"On their part, banks have sought to fill the credit deposit gap by increasing their reliance on short-term borrowings and certificate of deposits. This increases their sensitivity to interest rate movements and poses challenges to liquidity management,” he added.

The statement by the RBI Governor should be taken seriously as any structural liquidity issue could collapse the entire banking system.

Budget expectation

Banks were expecting some measures from the Union Budget to address the predicament that they are facing. Depositors were also expecting some incentives from the Budget as their real return of interest from banks is negative in many cases.

It was earlier reported that the government was assessing a proposal to increase the tax-deductible amount on interest earned from savings accounts to Rs 25,000.

It seems that a suggestion in this regard was made by banks at a meeting with key finance ministry officials. But nothing has happened to address the issue of falling deposit growth of banks and incentivising the depositors.

Why decline in deposit growth?

For any investment, return on investment (RoI) is a major factor. State Bank of India pays 2.7 per cent interest per annum on their savings accounts. Most of the banks pay around 3 per cent on their savings accounts.

Per RBI data, the weighted average domestic term deposit rate (WADTDR) on outstanding rupee term deposits of Scheduled Commercial Banks was at 6.91 per cent in April 2024.

India's retail inflation, measured by the Consumer Price Index (CPI), was 4.83 per cent in April 2024. This means that the savings bank depositors must be getting a real negative interest of 1.83 per cent from most of the banks.

Term depositors’ real interest was (6.91-4.83) 2.08 per cent. This interest income is also chargeable to income tax up to 30 per cent in the highest bracket. The above figures show that there is no incentive for depositors to park their funds with banks.

Diversion of savings from banks

Of late, more and more people are attracted to the equity market. While equity investment is also important, it should not be at the cost of deteriorating the banking structure.

All along our economy has been a banking-based one. It is more suitable for our people, since most of them are not well-informed about different financial products and the risk factors.

The NIFTY stock index has provided a one-year return of 25.81 per cent, two-year return of 49.94 per cent and three-year return of 54.63 per cent. This attracts investors to switch from bank deposits to the equity market. Also, gold has given a one-year return of 23.7 per cent and people are lured for this investment, also.

Most of them do not understand the risk factors involved in these investments. There seems to be ‘recency bias’ or availability bias in operation. Recency bias, or availability bias, is a cognitive error identified in behavioural economics whereby people incorrectly believe that recent events will occur again soon.

Importance of household savings

For an economy to sustain long-term growth, household savings are important. There should be adequate incentive for domestic savings.

But the National Account Statistics 2024 data released by the Ministry of Statistics and Programme Implementation (MoSPI) shows for the third straight time that household savings have declined.

Per this data, the net household savings declined to Rs 14.16 lakh-crore, and the number was Rs 9 lakh-crore higher just three years ago.

Effect of slower deposit growth

When deposit growth does not match credit growth, it creates an asset-liability mismatch for banks, which are then forced to borrow extensively. This pushs up the interest rates. As cautioned by the RBI Governor, it may lead to structural liquidity issues.

Corporates are dependent on banks for their working capital finance and individuals are dependent on banks for their personal loans, housing loans, vehicle loans etc. Agricultural loan is also a major segment. These borrowers will face rationing of credit and also higher interest rates if the banks’ deposit growth percentage does not match credit growth percentage.

Government borrowing depends on the investment in government securities by banks. Banks deploy 19 per cent of their deposits under Statutory Liquidity Ratio in government securities and any reduction in deposit growth rate will affect government borrowings and in turn will push up interest rates in the market.

When the bank deposits as on June 14, 2024 is Rs 2,13,58,531 crore, SLR works out to Rs 38,44,536 crore. When we consider the Central government debt/liabilities, including external debt at current exchange rate which is estimated at Rs 187.35 lakh-crore as on March 31, 2024, we can understand the importance of bank deposits.

Measures suggested

Union Finance Minister Nirmala Sitharaman may revisit budget proposals and ensure better real return for bank depositors with necessary tax exemptions for interest income.

Banks may be barred from doing non-banking activities like distribution of mutual fund schemes and Insurance schemes as these schemes are detrimental to banks financial intermediary role.

The RBI may tinker with reserve ratios (Cash Reserve Ratio and Statutory Liquidity Ratio) to make more funds available with banks for lending operation.