Home / Money / Personal Finance /  External benchmarks for retail loans can pose risk for banks, for now

While retail loans like credit cards and personal loans are growing, consumers are concerned about banks not being able to pass on interest rate changes to them, especially in a falling interest rate regime. Even the Reserve Bank of India has raised the issue from time to time. Shanti Ekambaram, president, consumer banking, Kotak Mahindra Bank, talks about how banks are dealing with such consumer issues

What are the new trends in the banking space that could be of interest to consumers?

If you look at credit growth, which I think is a key barometer of the economy, in the last few quarters, credit growth from the retail segment has been growing reasonably well. We have seen growth in credit cards and personal loans. Some of these products have grown because of the increase in discretionary spending and aspirational lifestyle values of the younger generation. In the last three-four months, we’ve seen a little bit of slowdown in traditional products like cars, homes and a little in (consumer) durables, which has been different from the trend of the last three to five years. Maybe this is just reflecting on the overall economy.

So I would say credit growth continues to be reasonably good. Some segments are continuing to show a strong trend, while others are showing a slowdown. Digital adoption among customers also continues at a healthy pace.

There has been a sharp growth in unsecured loans. This could be risky if there are defaults. Is that a cause of worry at the bank’s level?

Any lending is subject to economic cycles. Credit cards are no different. Any wholesale lending is dependent on economy, investment and volume growth, among others. Retail will depend on jobs. While job growth may not have been that rapid, there is no loss of employment and that is what is critical. Second, I think for each bank, the percentage of unsecured loans to the total portfolio also matters. For example, at Kotak, it is a small portion of the total portfolio. Our secured lending is much higher than unsecured lending. So I’d say that if there are rapid massive job losses like what you saw in the post Lehman phase, which had an impact on retail and had a contagion effect, if that were to repeat, there could be (impact on retail asset quality). It’s not exactly a worry, but you have to watch the trends. You haven’t seen job losses in the economy, if the economy continues to grow and there are no job losses, we should be okay.

Interest rates are coming down, but there is concern that the cuts are not getting passed on to consumers. This is particularly true for home loans.

Post February, when the first rate cut happened, a lot of banks have been reducing rates which is basically MCLR (marginal cost of lending rate) and transmitting the same to customers. The challenge for banks is that liquidity is always very tight in March. RBI did provide liquidity through the swap windows or through OMOs (open market operations), etc., but if you look at the markets today after two rate cuts and forex swaps, liquidity continues to be tight. One of the reasons is that the government stopped spending because of elections; hopefully it will restart.

Growth in deposits has been slow, because of which banks have not been able to bring down deposit rates significantly. As banks are focused on growing the deposit base because there is credit demand, their ability to lower deposit rates has been marginal. And banks are driven by the cost of funds. So transmission has been happening.

How can this be improved?

Banks are trying to see how they can be more cost-effective in their deposits and this transmission will continue based on how you can lower the cost of your deposits. For example, there has been an increase in the small savings rate. Now banks are competing for deposits with small savings rate. They have not been able to reduce their deposit rate because they need the deposit flow. So that’s really the challenge that banks are facing. If your cost of funds doesn’t go down, your ability to transmit will be more gradual and I think it would continue to be transmitted. I think the factors of liquidity and the ability to reduce deposit rates for cost of funds are important.

SBI has linked its savings account deposits rates with the repo rate. How is the industry perceiving this move? Will people move their money from savings accounts to fixed deposits?

It is interesting but it is still early days. If one third of their savings base is linked with an external rate, over a period of time, it can make a difference to their cost of funds either way, taking it up or down. It remains to be seen whether customers are indifferent. But it will certainly help the bank. If a one-year term deposit is getting 7.3% and your savings account rate is 3.25%, what will you do? Customers look at different products but there is also inertia when it comes to money.

RBI came out with a draft framework for external benchmarking of retail loans and it could not be implemented. What are your thoughts on that?

Conceptually, that is interesting, but practically, banks’ deposits are mostly on a fixed rate and lending mostly on a floating rate. So you have this classic interest rate mismatch. Your deposits are fixed and there is no correlation between them and the money markets. The external benchmark is really linked to the money market. So until this changes structurally, it could pose risks for banks. So the structural deposit side of a bank’s balance sheet has to get closer and closer to market rates. But deposit rates are fixed and they come from very small individuals, while money market rates are determined by more institutional groups. How do you bridge that gap? And when your deposit rates become a little more floating, then you think of external benchmarks. So the difference really is the cost of deposits versus the rates in the money market, which is a wide gap. So to get the whole small consumer base used to a floating rate will take some time. It is a question of adoption.

There has been some stress in debt mutual funds recently. How do you look at it?

As bankers, we have always been lending money. Banks have large credit departments. Before you lend money, your level of due diligence is really deep and wide. Mutual funds, when they take credit exposure, largely go by ratings. They have very thin teams who do not do the kind of due diligence that a bank does. So in an environment that has changed in India, the level of due diligence required has to go up. Then the real question is what are the norms for credit exposure. Banks have very stringent norms for credit exposure. Perhaps some more norms could be needed.

Even individual depositors in some instruments often go by ratings?

It only teaches us that don’t just go by ratings. Read up a few things and understand a bit before you put your money. Every investor, retail or otherwise, perhaps has to increase the level of diligence before putting their money in an instrument. And there is no return without risk. So if you see you are getting a higher return, look closely. Don’t invest in something just because someone told you to. Read and try to understand. If you can’t, ask someone who does. If you don’t get an explanation, be safe in your investments.

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