Banks may have to borrow more as deposit growth slows down: Fitch Ratings

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Last Updated23/10/2024

The share of Indian banks’ borrowings will continue to rise gradually within their overall funding mix if they struggle to attract sufficient fresh deposits to support loan growth.

A recent Fitch Ratings report highlights concerns regarding Indian banks’ reliance on borrowings as part of their funding mix, especially in light of challenges in attracting sufficient fresh deposits to support ongoing loan growth. Here are the key points from the report:

Borrowings Rise: The share of borrowings in Indian banks' funding mix is expected to gradually increase from the current 10% if banks struggle to attract low-cost, long-term deposits. This shift may occur due to a sharp rise in the loan-to-deposit ratio (LDR), which has recently become a structural concern.
Loan-to-Deposit Ratio (LDR): The LDR has risen by 10 percentage points since FY21, indicating that banks may be increasingly relying on borrowings rather than deposits to finance their loan portfolios. This trend could create funding pressures if deposit growth does not keep pace with loan demand.

Low Returns on Deposits: Despite a 250 basis points increase in policy rates during FY23, the returns on low-cost deposits have not responded accordingly. The share of low-cost deposits in new deposits fell to a two-decade low of 20% in FY24.
Evolving Depositor Preferences: Inflationary pressures, increased digitalization, and strong performance in capital markets are driving depositors to shift their funds from bank deposits to investments, which could exacerbate funding challenges for banks.
Deposit Migration: Traditionally, depositors move towards term deposits under high-interest environments, but this trend has reversed with the share of low-cost deposits dropping significantly.

Sustainability Concerns: Fitch considers the current deposit pricing strategy of banks to be unsustainable in the long term, particularly given the Indian economy's reliance on bank credit. The ability of banks to pass on increased funding costs to borrowers may be limited due to their reduced pricing power.
Market Dynamics: If the trends observed continue, the ongoing rise in the LDR could intensify margin pressures on banks, complicating their asset-liability management.
Investment Growth: Mutual fund investments have surged by 24% CAGR since FY17, and sustained performance in capital markets could further accelerate the shift of retail savings away from bank deposits.

Liquidity Support: A sustained easing of the Reserve Bank of India's liquidity stance or increased government-linked inflows could alleviate some of the pressures on banks' funding structures. However, declining flows from deposits due to low real returns could worsen the situation.
Wider Depositor Base: Expanding the depositor base beyond major urban centers, where a significant proportion of bank deposits and mutual fund assets are concentrated, could help improve deposit retention and inflows.