The credit-to-deposit (CD) ratios of major public and private banks experienced an increase in the third quarter, raising concerns about potential mismatches. The public sector lenders, including State Bank of India, Punjab National Bank, Bank of Baroda, and Canara Bank, reported CD ratios lower than private counterparts such as HDFC Bank, ICICI Bank, IndusInd Bank, and Axis Bank.
In January 2024, the industry’s CD ratio reached a three-year high, putting pressure on net interest margins due to increased liquidity and credit risks. Analysts anticipate a gradual reduction in CD ratios in Q2 FY25, especially if credit demand slows or deposit rates rise.
What is CD ratio?
The CD ratio is a metric that measures the ratio of a bank’s lending in relation to the deposits it accumulates. For example, a CD ratio of 75% implies that three quarters of the deposits were disbursed as loans. As of September 30, 2023, certain small finance banks exhibited particularly high CD ratios, with Suryoday Small Finance Bank at 108%, and IDFC First Bank, Equitas Small Finance Bank, and Utkarsh Small Finance Bank at 102%, 101%, and 100.8 %, respectively. Other banks, such as Bandhan Bank (96%) and Axis Bank (93.9%), reported CD ratios below 100% but higher than the industry average.
The average CD ratio across banks remained slightly below 80% as of September 2023. An increased CD ratio can present liquidity and credit risks for a bank, indicating that a significant portion of its funds are tied up in loans, leaving fewer liquid assets. This situation can lead to liquidity challenges if depositors initiate large-scale fund withdrawals, hindering the bank’s ability to meet short-term obligations.
The likely implications
Analysts and investors fear that elevated levels of CD ratio, beyond the comfort range of the RBI, could lead to potential challenges. There is a fear that this situation could force banks into margin squeeze if they aggressively mobilize deposits. Alternatively, a slowdown in loan growth could be observed, or a combination of both scenarios. Such developments could result in a downsizing of the banking sector.
What can banks do?
Banks are expected to take measures to lower their CD ratios closer to the industry average. One effective strategy is to focus on growing deposits faster than advancing loans. This approach, experts suggest, would not hinder the overall loan growth of banks.
To address the current imbalance in CD ratios, banks are actively working to boost deposit growth while carefully controlling the expansion of their assets. Despite the challenges, experts believe that if deposit growth remains robust, there may not be a need for banks to significantly limit their loan growth.
The banking system witnessed credit growth exceeding deposit growth, resulting in an elevated CD ratio. Credit increased by 20% year-on-year to reach Rs 159.6 trillion for the fortnight ending December 29, while deposits increased by 13.2% year-on-year to reach Rs 200.8 trillion in December 15, 2023.
ETBFSI now has its WhatsApp channel. Subscribe for all the latest updates.