MC Explains: Why is banks' CD ratio worrying the banking regulator? Here's all you need to know.

CD ratio featured

Over the past few days, there have been reports about the Indian banking regulator's discomfort with a high credit-deposit (CD) ratio in the Indian banking industry. The ratio reflects the proportion of funds raised by banks through deposits that have been utilized for lending. A high CD ratio signals liquidity and credit risks for banks.

Data and commentary from the central bank and experts show that the CD ratio of some banks has been high, leading to pressure on their net interest margins (NIM). This is largely due to credit growth far outpacing deposit growth in the banking system, they said.

Some have speculated that the plunge in HDFC Bank Ltd's shares is linked to the RBI mandating a lower credit-deposit ratio for India's largest private lender.

Here's an explainer to help you understand the issue and its implications.

What is the chatter in the market about the CD ratio now?

According to market reports and data from the RBI, the CD ratio of Indian banks is higher than the desired levels. The latest data from the Reserve Bank of India (RBI) showed that the deposit growth in the banking system has been slower than the credit growth. This has pushed the CD ratio higher. It showed that banks' credit grew by 20 percent on a year-on-year (YoY) basis to reach Rs 159.6 lakh crore for the fortnight ended December 29. The deposit growth of banks grew at 13.2 percent year-on-year for the fortnight to reach Rs 200.8 lakh crore as of December 15.

What is the RBI saying?

According to some media reports, the Reserve Bank of India (RBI) has expressed concerns over the high CD ratios of some banks and has asked these banks to lower the ratio. In response to a CNBC-TV18 report, the RBI clarified that it hadn't asked some banks to lower the CD ratio and said it's meetings with banks are a routine supervisory engagement with regulated entities. In the past, too, the RBI had said that the regulator won't intervene in individual banks' business decisions.

Why the CD ratio is going up?

Aggressive credit expansion, coupled with slow deposit growth as investors divert their funds to the capital markets, has driven the industry towards a higher CD ratio, experts said.

Sanjay Agarwal, Senior Director, CareEdge said: "The regulator has been asking for a more reasonable CD ratio number." Agarwal said that deposit growth has been slower than credit growth. "We've seen that the deposit growth of Indian banks has been slower than their credit growth. This has eventually led to a high CD ratio," he said. Additionally, many private sector banks are witnessing faster credit growth than deposit growth which needs to be balanced out, he added.

Is the HDFC Bank's share price fall linked to this issue?

The stock's slump was primarily attributed to the bank's Q3FY24 earnings, which missed expectations due to high fund costs impacting its net interest margin (NIM). The HDFC Bank stock extended decline on January 18, fell over 3 percent after its US-listed shares plunged 9.1 percent overnight to $55.5, marking its biggest single-day drop since March 2020. In the past two days, the HDFC Bank ADR has declined more than 15 percent, while HDFC Bank stock trading in Mumbai has fallen over 10 percent. Ajit Kabi, an analyst at LKP Securities, said: "The lower liquidity coverage ratio (LCR), credit-to-deposit (CDR) bottleneck, and slower deposit growth may squeeze NIMs going forward. We believe that the street is concerned about the above factors."

Is this just an HDFC Bank-specific issue?

Experts said that the higher CD ratio is an industry issue. They further said that a lower CD ratio will impact banks' NIMs.

S&P on December 13 said that the credit-deposit ratio (C-D ratio) of Indian banks may come under pressure due to the continued lag of deposit growth vis-à-vis the pace of credit expansion. "Trailing of deposit growth and competition for funds may lower the net interest margin (NIM) to 2.9 percent in 2024-2025 (FY25) from 3 percent in FY24. Over the next few years, the loan growth will align with nominal gross domestic product (GDP), with retail loans surpassing corporate loan expansion," S&P said in a report.

What did senior bankers say?

Recently, Amitabh Chaudhry, Managing Director and Chief Executive Officer (MD and CEO), said that if the RBI were to mandate a number for banks on the credit-deposit ratio, every bank would have to re-look at their balance sheets. "RBI is worried about some of the exuberance they're seeing on the credit growth side, especially on retail loans. And specifically on the unsecured loans. I don't think the RBI will ever mandate a number on banks' CD ratio," Chaudhry said in an interview with CNBC TV-18 at Davos.