Bank Deposit rates could go to Decade Lows - Chart Of The Day 11 November 2016 - Equitymaster
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Bank Deposit rates could go to Decade Lows
Nov 11, 2016


The recent demonetization is great for honest tax payers, financial entities, lots of startups and the economy as a whole. Its impact on curtailing black money will be known over a period of time. But one area that it could hurt a lot is the household savings rate in the country.

More than 70% of the country's household financial savings is in bank deposits. The growth in bank deposits in India was at a 53-year low in FY16. The household savings to GDP ratio was at a 25-year low. To know the reason, one needs to look no further than the miniscule real interest rates (deposit rates adjusted for inflation) that the deposit holders were fetching. The poor yield on bank deposits had directly impacted by savings appetite of an economy that prides itself for its demographic dividend.

Demonetisation, will no doubt, forcefully swell the quantum of bank deposits. Unaccounted cash in the economy is estimated to be Rs 4.5 trillion. Even if a fraction of this finds its way to the bank coffers, it will be a problem of plenty for banks.

On one hand banks will have a deposit base much bigger than they would have earlier envisaged. On the other hand, the poor demand for credit is unlikely to pick up soon. The correction in bond yields has prompted corporates to raise funds via corporate deposits and non-convertible debentures (NCDs). Issue of NCDs, in fact, is at a seven year high. There will be few takers for bank loans at high yields. Threatened with prospect of poor margins, banks may therefore decide to cut deposit rates sharply.

The country's largest lender, State Bank of India, has already pegged its three year deposit rates at a decade low. Others are expected to follow suit.

As per the data put forth by the Urjit Patel Committee (RBI), fixed deposits have lagged the returns from gold and real estate for most of last eight years. Even prior to that fixed deposit returns caught up with that on gold only in FY08. And when compared to consumer inflation, it seems that only gold that has offered any real returns.

The government's concern so far has only been about lower interest cost for borrowers. The fact that at negative real interest rates, bank deposits will become unviable, has been of little concern.

Reluctance to park money in low yielding bank deposits could have multiple adverse impact on the economy.

First, the household savings appetite could truncate further.

Secondly, investors looking for fixed returns may get lured by the steep yields offered by risky corporates on their bonds.

Thirdly, households may choose to go back to investments in gold and real estate instead of growing their financial assets.

The only chance of our fears being unfounded is if the government manages to cut down the fiscal deficit meaningfully. The RBI is expected to pay a bigger dividend this fiscal. And if that cuts down the fiscal deficit, the government's borrowing needs will automatically fall. This could lower the bond yields. Lower bond yields could eventually stoke the corporate borrowing appetite and give banks healthy return on their funds. Therefore such a virtuous cycle may to an extent prevent deposit rates from falling further.

In the meanwhile, apart from worrying about old currency notes, bank depositors in India should also be concerned about their returns.

In such a scenario, looking for alternative avenues of fetching relatively safe returns is a must. Here is a way to do it.

Data Source:SBI, Bloomberg

This Chart Of The Day was published in The 5 Minute WrapUp - The Demon In Demonetisation For Savers

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