Accelerating the rate of growth of the economy and disposable incomes holds the key to higher deposit mobilisation by the banking system, says an RBI paper. The slowdown in bank deposit growth in the recent period alongside a revival of credit demand raised concerns about a structural liquidity gap in the system, possibly amplified by substitution effects of small savings and mutual funds on bank deposits in the aftermath of demonetisation, as per an article published in the latest monthly bulletin of the RBI.
To address the issue of structural liquidity gap, the Reserve Bank of India (RBI) in recent months took several initiatives including Open Market Operations and dollar rupee swap auction. The article highlighted that the widening wedge between credit and deposit growth is triggering concerns about a structural liquidity gap in the system, which can throw sand in the wheels of the financial intermediation process through which deposits are converted into productive investments by way of lending, thereby greasing the wheels of the economy.
“Outstanding deposits of scheduled commercial banks (SCBs) at Rs 1,25,726 billion as on March 31, 2019 accounted for 128.7 per cent of outstanding bank credit (lower than 132.5 per cent a year ago), reflecting the tightening of financial conditions on account of low deposit growth,” it said.
Noting that the bank deposits remain an important part of the financial savings of households and key to the financing of bank lending, it said deposit growth is picking up in recent months in a cyclical upturn since December 2018, which is overwhelming a trend slowdown that has been underway since October 2009.
“The latter warrants policy consideration since deposit mobilisation is fundamental to India’s bankbased system of financial intermediation. Empirical evidence puts forward several interesting facts about the behaviour of bank deposits,” it said.
First, it underscores the income as its most important determinant, both in the short-and in the long-run, it said. It further noted that interest rate matters for deposit mobilisation but only at the margin and financial inclusion has a boosting effect on deposit mobilisation over the long-run suggesting expansion of bank branches in unbanked areas.
Besides, substitution effects associated with Sensex returns for deposit growth are limited to the short-run, warranting a careful appraisal of regulatory reforms and tax arbitrage, even as efforts need to be intensified to make both more market determined. “In the final analysis, therefore, accelerating the rate of growth of the economy and disposable incomes holds the key to higher deposit mobilisation by the banking system,” it said. The RBI in a disclaimer said that views are of authors and do not represents the views of the central bank.