The Incremental Credit Deposit Ratio (ICDR) for the current fiscal year to date is just 9.5%, implying that for every Rs 1 of deposits raised, only Rs 0.095 is being lent to borrowers. The 9.5% ICDR suggest that banks are reluctant to lend given the rising bad loans in the system. Bad loans of public sector banks (PSU Banks) have risen by 50% in financial year 2011-12 as per estimates from research analysts and the first quarter of 2012-13 has seen gross non performing assets rising by 75% to 100% for a few PSU banks. CRISIL estimates that Rs 50,000 crores of restructured assets, expected at around Rs 325,000 crores for 2012-13, will go bad. It is no wonder that banks, especially the PSU banks are not lending.
In absolute terms deposits increased by Rs 179000 crores in the 30th March 2012 to 24th August 2012 period while total credit increased by just Rs 17,000 crores. Banks in the same period have invested in excess of Rs 180,000 crores in government bonds suggesting that banks are raising deposits and parking it in government securities.
RBI in the meanwhile has bought around Rs 80,000 crores of government bonds fiscal year to date in order to provide liquidity for banks to lend to productive sectors. RBI bond purchase has helped liquidity improve in the system with liquidity as measured by bids for Repo in the LAF (Liquidity Adjustment Facility) auction of the RBI coming down from levels of Rs 100,000 crores to levels of Rs 40,000 crores. Bids for repo indicate that banks borrow from the RBI for meeting daily liquidity requirements.
The anemic 9.5% ICDR is a problem for the RBI. RBI wants credit to go to productive sectors including infrastructure and agriculture but the fact is that these two sectors are the biggest problem sectors for the banks. CRISIL estimates that the major loans that will be restructured will be in the power distribution, construction and the real estate sectors. Agricultural loans in the face of below normal monsoons are more likely to go bad. Banks are clearly not willing to increase credit growth given the high levels of bad debts that they are carrying. RBI at the same time wants banks to clean up their balance sheets and reduce non performing assets.
RBI will have to address the weak ICDR issue in its upcoming policy review in mid September and end October. Deposits are growing but deposits raised are being parked in government bonds. RBI does not have to worry about credit growth fuelled inflation and keep rates high in the system given the weak credit growth. However an extremely low ICDR will result in GDP growth falling off the cliff as banks reluctance to lend and consumers and business reluctance to borrow in the face of a weakening economy lead to a self fulfilling cycle of falling growth.
RBI has brought down GDP growth forecast for 2012-13 from initial estimates of 7.3% to 6.7% and in the face of the weak ICDR, GDP growth estimates will have to be brought down further to below 6% levels. RBI should cut policy rates by a wide margin in order to encourage banks to lend and maintain its GDP growth forecast of 6.5%. In cutting policy rates, RBI is taking the risk of banks going overboard on government bond purchases as falling bond yields push up treasury income. Banks are entitled to some treasury profits given the rough period they have had over the last few years on a rising interest rate and weakening economy cycle and treasury profits can in fact given more risk appetite to banks.
RBI must bring down rates in the economy if it wants growth to be reasonable and not well below even poor averages.