The requirement of certificates of deposits (CDs) and term deposits (TDs) for banks will come down while their rates could see downward pressure in the wake of the Reserve Bank of Indiaproviding long-term funding at a fixed rate (current average rate 5.15 per cent) along with the relaxation in cash reserve ratio (CRR) for incremental loan book growth in certain segments, according to India Ratings (Ind-Ra).

The recent measures announced by the RBI – provision of long-term funding via the long-term repo operation (LTRO) facility and limited CRR relaxation to encourage credit flow to the MSME (micro, small and medium enterprises) and consumer segments (auto and housing) – will encourage banks to extend credit to the retail and MSME segments, the credit rating agency said.

Ind-Ra believes the short-term requirement of funds for banks will further diminish amid a low demand for credit, but the Profit and Loss (P&L) impact of CRR relaxation is expected to be limited (₹600 crore per annum for the system for the next five years).

“The impact of this measure could be more for banks with lending appetite, but is constrained by an unfavourable deposit profile. The only caveat here is that banks should not use the proceeds of this source towards investments in government securities.

“LTRO could also reduce the spread between the weighted average deposit rates of private sector banks and public sector banks by sustainable and stable support through LTROs,” said Soumyajit Niyogi, Associate Director.

Under the LTRO facility, RBI provides one-year and three-year money to banks at the repo rate to improve transmission of changes in the repo rate to banks’ lending rates. CRR is the slice of deposit that banks have to park with the RBI. Currently, CRR is at 4 per cent of deposits. Banks don’t earn anything on CRR.

Profitability of banks

Ind-Ra said the CRR that is saved (under the new measures) could be deployed for incremental lending. Depending on the asset class, banks will earn between 8 to 9 per cent on that against ‘nil’ at present on the CRR that is no more required to be kept, said Niyogi, adding that this could provide banks with more tolerance for credit cost in these advances.

According to a report prepared by the agency, assuming an average six-month growth of 7 per cent in retail (home and auto) and MSME segments and the same to be funded by liabilities that in ordinary circumstances will require a CRR of 4 per cent to be kept aside, banks will have to keep a low CRR to the extent of ₹8,000-9,000 crore over one year, which could consequently have a positive impact on the P&L of about ₹600 crore annually for the next five years.

Ind-Ra does not expect the P&L impact to be material, but this could be an incentive to lend with higher tolerance for credit cost. The way it is calculated, the assignment transactions undertaken by banks may also qualify for CRR relaxation and, hence, this could provide upside to the agency’s estimates on profitability and also provide incentives to the bank to do more assignment transactions from non-banking financial companies and housing finance companies to provide them with additional liquidity support through off-balance sheet transactions.

The agency said housing finance companies are likely to see growing competition from banks in the housing segment as banks are likely to incrementally target growth in the segment.