Credit growth trails deposit growth, CD ratio signals challenges

Credit growth has lagged behind deposit growth by Rs 3.5 lakh crore since January 2024 according to Care Ratings. Credit increased by Rs 8.4 lakh crore, while deposits grew by Rs 11.9 lakh crore. As of July 12, 2024, the credit-to-deposit (CD) ratio stood at 79.4%, indicating possible challenges for future credit expansion.

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Credit growth has lagged behind deposit growth by nearly Rs 3.5 lakh crore since January 2024, according to a recent analysis by Care Ratings. During this period, while credit increased by Rs 8.4 lakh crore, deposits grew by Rs 11.9 lakh crore.

The analysis highlights that credit growth has not kept pace with deposit growth, particularly following new guidelines on risk weights and adjustments to the Credit-to-Deposit (CD) Ratio. These changes imply that banks are focusing more on raising deposits and using alternative methods like securitization to gather funds, rather than expanding their loan portfolios.

Over the past six months, credit has grown by 5.3%, while over the past three months, it has grown by just 2.3%. In contrast, deposit growth has been higher, with rates of 6% over six months and 3.4% over three months. The Credit-to-Deposit ratio, which measures how much of the deposits are used for lending, was approximately 70% in January and around 54% by March, reflecting a cautious approach by banks towards lending.

Credit offtake continued to grow at a slower pace, increasing by 13.9% year-on-year to reach Rs. 168.1 lakh crore for the fortnight ending July 12, 2024. This slower growth rate is attributed to a higher base effect from the previous year and banks’ efforts to manage and restrain their credit-to-deposit ratio. This trend reflects a broader pattern where deposit growth is outpacing credit growth, signaling potential challenges for credit expansion in the coming months.

Last financial year, banks struggled with a high CD ratio, indicating aggressive lending relative to their deposit base. A high CD ratio can lead to liquidity and credit risks for a lender and it indicates that a significant portion of the bank’s funds is allocated to loans, which reduces the amount of liquid assets available. This scenario often creates situations of liquidity constraints, increased risk of loan defaults, and heightened regulatory scrutiny. Conversely, a low CD ratio presents its own set of challenges, such as underutilization of deposits, reduced credit availability in the economy, missed business opportunities, and pressure on profit margins.

Although there is ongoing debate about whether deposits fund loans or loans fund deposits, the current regulatory concern is centered on potential structural changes that banks need to recognize and adapt their strategies to address in order to maintain a reasonable balance between credit and deposit growth. Balancing the CD ratio is crucial as it affects both financial stability and economic growth, requiring banks to carefully manage their credit and deposit levels to optimize liquidity and support economic development effectively.