A higher CD ratio than the market standards can cause bigger issues in the coming days. RBI raised this concern and asked all banks to reduce their CD ratio to less than 80%.
The CD ratio of credit-deposit ratio for banks is a crucial factor for the overall economy of the country which is why RBI is stressing over the increasing CD ratio. It has asked the banks to reduce the gap between credit and deposit growth which reduces the CD ratio or there will be severe changes in the economic ecosystem of the country.
According to the Financial Stability Report by RBI, the CD ratio has drastically peaked up to 80 to 100% and even higher which is evidently noticeable in the previous two quarters. The rise of the CD ratio started back in September 2021 and by December 2023, it had reached 78.8%. More than 75% of the total banks in the country are currently having over 75% CD ratio which is highly concerning for RBI. CD ratio represents the amount of loans that a bank has issued than its total amount of deposits.
According to RBI, the reason behind the higher CD Ratio is the rising retail market. With people availing of more loans such as personal loans, car loans, and home loans; retail credit has risen within the last two years. With the help of bank loans, the retail sector has grown at a CAGR of 25.2% from April 2022 to March 2024. Another driving factor is the growth of startups, small-scale businesses, and MSMEs.
The market is also witnessing slower deposit growth due to the high competition among banks. A lot of customers in India are also switching to trading and other investment plans which makes them less of a saver and more of an investor. With diversified funds in the capital market, the actual market for deposit growth is gradually decreasing.
The CD ratio for small financial institutions and banks has reached more than 100% while the average of the industry is set to be 80%. While there are no optimal limits, according to an economist, “There is no specific number for the CD ratio given to the banks by the Reserve Bank, but 70-80% is its comfortable range.” It is especially applicable for the small banks as the CD Ratios are, 102% for IDFC First Bank, 101% for Equitas Small Finance Bank, and 100.8% for Utkarsh Small Finance Bank. Banks that belong to above 90% range are Bandhan Bank at 96% and Axis Bank at 93.9%.
A higher CD ratio can cause risk related to credit and liquidity for the lender and in this case, the lenders are the banks. Therefore, banks can face pressure on the Net Interest Margins (NIM) which decides the net return for a bank’s earnings based on the assets like loans and other investment securities. There could be also liquidity issues where banks can face payment obligations. It also poses credit risk for borrowers with contractual obligations.
Evidently, there are many reasons behind RBI expressing its concern for the high CD ratio. The banks are advised to drop it down to the industry average.
