Why low deposit rates may be short-lived for banks

http://economictimes.indiatimes.com/news/news-by-industry/banking/finance/banking/why-low-deposit-rates-may-be-short-lived-for-banks/articleshow/16359947.cms

Last week, the country's largest lender State Bank of India (SBI) reduced interest rates on term deposits by as much as 100 basis points, but hardly anyone said that it is the beginning of a trend. On the contrary, many said that banks may be forced to take a U-turn in a few months or quarters if the government succeeds in what it aspires to do - revive economic growth.

The fact that deposits growth rate is bumping around a near decade low and nearly three-fourth of the economic activity is funded by the banks, unlike markets in the West, low deposit rates may be short lived. Also, investors have shown their reluctance to be dictated by the administration by moving away to real assets such as gold and real estate in times of negative real returns, which amounts to losing money after adjusting for inflation.

Yes, the incremental credit-to-deposits ratio is at 30% in the absence of demand for new loans from hobbled businesses, but it may be a temporary phenomenon.

The overall loans-to-deposits ratio still remains at 75%, reflecting that out of every Rs 100 as deposits, Rs 75 has been lent. With banks mandated to own at least 23% in government bonds and 4.75% in cash with the Reserve Bank of India, banks are relying on other sources of funds to lend. These ratios will never match. Banks, in their eagerness to please investors, have, in the past few years, raised short-term deposits, (which are low cost), and lent long term for building power plants and roads.

With many of these borrowers not in a position to repay now, banks will come under pressure to repay depositors. So, to ensure that they don't default, banks have to keep mobilising deposits at higher rates even if they don't have much demand for loans. Also, SBI may be an exception in attracting deposits as safety-loving savers prefer bank deposits, especially SBI, to rivals or equities.