The banking industry operating at a deficit has led to a lowering of the Liquidity Coverage Ratio (LCR) with liquid assets being used to fund credit growth. The lowering LCR along with slower deposit growth may affect credit expansion and limit NIMs, according to a report.
The high gap between credit offtake and deposit growth has been accentuated by the HDFC merger in YTD FY24.
Further, with PVBs (Private Sector Banks) leading the credit growth compared to PSBs (Public Sector Banks), the aggregate Credit to deposit ratio has increased with PVBs maintaining it at a significantly higher level.
However, PSBs appear to be in a better position compared to private banks given the relative size of deposits and higher levels of LCR, a CareEdge report said.
Credit offtake
The credit offtake has been around 16% for FY23 and at around 20% for YTDFY24 after considering the merger of HDFC Limited. Excluding the merger, credit growth has continued to be around 16% YTDFY24 (y-o-y). Banks have been focusing on retail lending and the demand has been driven largely by the personal loans (i.e. retail loans) and services (especially NBFCs) sector.
Retail constituted around 34% of total credit outstanding as of December 2023 while industry and services constituted 29% and 24% respectively. The PVBs have been growing faster than PSBs. Meanwhile, on the other hand, deposit growth has been around 13%. In the initial part of the pandemic, deposit growth outpaced credit growth and in the later part, credit growth was faster than deposits. This momentum has continued and the HDFC merger has accentuated the difference between credit and deposits. Consequently, the gap between credit and deposit growth has continued and remained elevated.
Credit growth lagged deposit growth for FY21 and FY22 but credit growth witnessed an uptick during FY23 and YTDY24 broadly outpacing deposit growth. As a result, the Credit to Deposit (CD) ratio has increased to around 81% with a higher CD ratio for private banks at around 94% and for public banks at around 74%.
However, it is to be noted that this level is not exactly unprecedented but at near similar pre-Covid levels during March 2019. The CD ratio for private banks after adjusting for the merger effect stood at 86% as of September 2023. The CD ratio is anticipated to be under pressure due to the continued lag of deposit growth vis-à-vis the pace of credit expansion with the economy’s overall optimistic growth forecasts.
Liquidity risk
Liquidity risk indicates the potential struggle a business could encounter in meeting its short-term financial obligations due to an inability to convert assets into cash without incurring a substantial loss. Liquidity risk is generally characterized by two main aspects: market liquidity risk and funding liquidity risk. Funding liquidity risk pertains to the inability to obtain sufficient funding to meet financial obligations. After the 2008/9 crisis, the Basel Committee on Banking Supervision (BCBS) recommended the adoption of the LCR and the net stable funding ratio (NSFR) towards 2010-end. The objective of LCR is to reduce banks’ reliance on short-term, volatile funding sources that may be subject to rollover risks.
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