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How low can the deposit rate go?

January 27, 2003 12:30 IST

'A nudge down on the cards'

N S Gujral, CMD, Punjab & Sind Bank

"The deposit rates are expected to reduce marginally by about 25 basis points in the near future as the Reserve Bank of India is still continuing with its bias for softer interest rates and is likely to reduce the repo rate by 25 basis points from 5.5 per cent to 5.25 per cent.

"A reduction in deposit rates would take place due to a variety of factors including ample liquidity prevailing in the system on account of subdued credit offtake, high forex inflows, as also due to interest rate arbitrage of 3.8 per cent between Libor (1.7 per cent) and the yield on one year GoI paper (5.5 per cent) and record forex reserves ($71 billion).

"Fears of a war in west Asia are further spurring a non-resident Indian deposit rush, particularly from the Gulf, where 15 per cent of the 20 million NRI population is based.

"Further in the forthcoming budget, interest rates on small saving instruments such as National Savings Certificate and PPF, which are ruling at 9 per cent, are expected to be slimmed down to align with interest rates on bank deposits, hovering around the 5.75 per cent level.

"The real rate of interest on advances is still ruling high, as compared with the interest rates in countries like the US, Japan and the Euro zone, which are below 5 per cent.

"In order to create a level playing field for borrowers in India, real interest rates on advances have to be brought down which can only be done by reducing interest rate on deposits.

"Besides, the cost of deposits continues to be high at around 7 per cent, which is not sustainable in for long as a reduction in interest rates affects incremental fresh deposits only and old term deposits, which constitute over 60 per cent of the banking portfolio, remain unaffected.

"Also, retail lending, where spreads are higher, have now started losing fizz. Continuing higher level of inward remittances from NRI and export proceeds due to high interest arbitrage are boosting forex reserves to unmanageable dimensions.

"There is an urgent need to lower rates on domestic and forex deposits. The inflation rate continues to be benign at 3.65 per cent and is not expected to rise much in the near future despite the effects of the drought on the kharif and the extreme cold in the north on the rabi crop, as the country has sufficient buffer stock to take acre of any shortfall in foodgrain production.

"Crude oil prices have already touched their peak and have been duly factored by the market as such they are expected to fall or stay put at their present level.

"A decline in gilt yields may continue, although the pace of decline may not be as rapid as witnessed earlier. However, a two-three per cent decline appears imminent in the coming fortnight. Due to all these factors, I do not see much reason why deposit rates should not come down further in the near future.

"However, as the industrial recovery picks up and war clouds are over and the government is likely to take measures to boost the economy through growth oriented and people friendly Budget, the rate of interest and the deposit rate may take a U-turn upwards."

'Seems like status quo for now'

S S Kohli, CMD, Punjab National Bank

"In the immediate future, deposit rates are expected to remain at the same level.

"The repo rate is not expected to come down below 5.5 per cent in the near future as the Reserve Bank of India has indicated that it is not going to reduce it below the present level and the interest paid on deposits with maturities over three years is close to the repo rate.

"Also, in the last three-four months there have been indications of a growth in credit, particularly on the non-food side.

"There is also good demand for advances from the retail side and the core sectors of the economy are showing signs of revival.

"Of late there has been good demand for loans from steel companies, the textiles sector and the pharmaceuticals industry. Overall the economy is looking up be it good demand for two wheelers or a considerable increase in the price of steel in the last few months.

"There are a lot of infrastructure projects particularly in the roads and the telecommunications sector, which need funds from banks and institutions. So fund deployment is not so much of a problem at the moment. Add to that the government borrowings is more or less complete and call money rate is hovering around the 6 per cent mark.

"Liquidity is just showing some signs of pressure. There are some big IPOs lined up in the next few months and with the kind of response that some of the public issues have received in the last few months, the indications are that money will start flowing into the equity market after the last few months when people wanted to play it safe and were just depositing money in banks.

"The spread is, however, still negative for most banks. The interest rate on savings bank that we are currently paying is 4 per cent and people don't want us to touch it.

"On the other hand, banks are paying 5.5 per cent to 6 per cent on deposits with over three-year maturity this means that the gap is between 1.5 per cent and 2 per cent. But that can be taken care of for the time being.

"With the interest rate on small savings not decreasing there would be a bearing on the deposit rates, which are competing with each other.

"With the deposit rates having fallen to present levels it is getting tough to compete with small saving instruments.

"So, bankers, in my opinion, would try and maintain the deposit rates at the same level and wait for a while before the next round of cuts are effected."

BS Banking Bureau in Mumbai