What is credit-deposit ratio, or CDR?
The credit-deposit ratio (CDR) is the ratio of total loans given by the banks divided by the total deposits that the bank has. For every ₹100 banks raise as deposits, they need to maintain ₹4 with RBI as a cash reserve ratio and invest a minimum of ₹18.75 in government securities. This basically leaves a little more than ₹77 out of every ₹100 that banks raise as a deposit to give out as loans. At the beginning of 2019, the CDR of banks stood at 77.6%. In mid-March, it peaked at 78.2%. This meant that banks were lending out almost all the deposits that they could and more, by borrowing from other sources.
What impact did a high CDR have?
Given that banks were lending out almost all the deposits they had, they were not in a position to cut the interest rates on their deposits and, hence, on their loans. This meant that RBI’s monetary policy did not have much of an impact on bank interest rates. Between January and August, the weighted average interest rate on outstanding loans of banks increased from 10.38% to 10.45%. During the same period, the weighted average domestic term deposit rate fell from 6.91% to 6.87%. In the case of public sector banks, the domestic term deposit rate rose marginally from 6.78% to 6.79%. Clearly, banks weren’t getting enough deposits to fund their loans.
What has changed since then?
As of 27 September, the credit-deposit ratio has fallen to 75.7%, the lowest it has been this year. Thus, the banks have more than enough deposits to continue funding their loans. Hence, they are in a position to cut their deposit and lending interest rates, unlike earlier this year.
Why did the credit-deposit ratio fall?
At the beginning of this year, the yearly loan growth of banks was 14.5%. Deposits were growing at close to 10%. Though the deposits were growing on a larger base, the difference in the growth rates was significant. As of 27 September, the yearly loan growth fell to 8.8%, the lowest in the past one year. On the other hand, the yearly deposit growth was at 9.4%. Clearly, the loan growth has fallen faster than deposit growth and, in the process, the credit-deposit ratio has improved.
Will this lead to lower interest rates?
Typically, banks tend to cut deposit rates faster than loan rates. This is already the case this time as well. An improved credit-deposit ratio gives an opportunity to public sector banks to cut deposit interest rates. If they do not cut lending rates at the same pace, the improved margins will help these banks to make more money against which they can make provisions for bad loans as well as write them off. That’s how things will go, at least initially. Vivek Kaul is an economist and the author of the Easy Money trilogy.