Upbeat domestic growth data will also provide strong impetus
Post Date – 12:15 AM, Tue – 1/3/23
go through Dr K Srinivasa Rao
How banks formulate their growth strategies for 2023 will largely depend on changing macroeconomic dynamics in 2022. Banks face domestic and foreign sectoral risks in an integrated world order. Recall that when Covid receded in early 2022, the world’s major central banks were all feverishly regulating loose monetary policies to combat the pandemic. But Russia’s invasion of Ukraine in February 2022 upended the global economic landscape.
Sanctions on Russia, soaring energy and commodity prices, ongoing supply-side disruptions, fallout from China’s “zero Covid policy” and heightened economic polarization add to geopolitical risks. Inflation has soared, interest rates have soared and volatility has become the watchword in markets ranging from stocks and bonds to cryptocurrencies and Chinese real estate. The appreciation of the US dollar against its own currency and the repatriation of overseas funds to advanced economies have exacerbated exchange rate challenges.
While fears of a resurgence of the coronavirus in many parts of the world cannot be ignored now, India is said to have the advantage, with its strong immunization campaign and wider exposure of society to the virus, resulting in a mixed immunity.
RBI strategy
The Reserve Bank of India (RBI) joined its global counterparts in normalizing policy while tailoring it to domestic demand. It opted to make a structural shift in monetary policy starting in May 2022, raising the repo rate sharply by 225 basis points to combat inflation. It is combined with the use of a variable rate reverse repurchase (VRRR) facility to absorb excess liquidity and keeps the low fixed rate reverse repos at 3.35% unchanged.
With funding costs soaring and resource inflows slowing, banks will soon need to fine-tune their liquidity risk management. Meanwhile, the Reserve Bank of India continued its innovative strategy by launching the Standing Deposit Facility (SDF) at 3.75% (currently 6%) on 8 April to absorb excess liquidity.
The banking sector will enter another aggressive growth trajectory in 2023 as the impact of fiscal and monetary policy actions in 2022 and external sector dynamics shape the challenges and opportunities in the economy. Banks will have to synchronize their functional barometer with the evolving macroeconomic ecosystem to take full advantage of it.
Affected by the recovery of trade and industry on credit demand, bank credit growth will grow rapidly at 17.5% in 2022, while deposit growth will be slow at 9.9% as of December 2, 2022. The incremental credit deposit (CD) ratio has remained above 100% since August 2022. Even money flowing to the business sector is expanding at a faster pace, which should spur growth. Due to resource shifts, banks are caught in severe liquidity mismatches and need to strengthen resource augmentation strategies.
While resource costs rise due to higher deposit rates, loans cannot be repriced until the funds-based marginal cost lending rate (MCLR) is reset. Overinvestment in SLR (Statutory Liquidity Ratio) securities above the statutory limit of 18% has also helped during the pandemic, when credit demand has plummeted. This excess liquidity can now be used to satisfy expanding credit.
But looking ahead, 2023 is sure to be the year of depositors, who will likely enjoy positive real rates amid plunging inflation and rising deposit rates. Intense competition for deposits will further increase interest rates.
stronger headwind
When the economy is strong, the industry is doing well and banks can reach their potential. It is worth noting that against the backdrop of GDP growth of 13.5% in the first quarter and 6.3% in the second quarter, macroeconomic fundamentals are strengthening. This trend reflects the strong upward momentum in both private final consumption expenditure and total fixed capital expenditure. Fiscal year-end GDP is expected to reach 6.8%, including 4.4% in the third quarter and 4.2% in the fourth quarter, providing strong impetus for banks. Growth data for the domestic economy resonated with optimism even as global GDP and cross-border trade slumped.
The risk of external spillovers from inflation continues and may exacerbate imported inflation. The gradual decline in crude oil prices, currently near $80 a barrel, is a major positive development that could lead to a quick economic recovery. Despite the inherent resilience of the Indian economy, sensitivity to emerging global risks is pragmatically the right approach in articulating the way forward for growth-inflation dynamics.
green add
Apart from the headwinds of reducing inflation and stabilizing growth, the findings of the RBI survey of households, businesses and professional forecasters provide ample optimism about the growth outlook. As demand for credit increases, banks must develop strategies for financing green projects that reduce their carbon footprint and meet the United Nations Sustainable Development Goals, while preparing for the daunting challenge of managing liquidity risk. Financing such projects requires different funds, including risk assessment and risk management systems.
The National Bank for Infrastructure and Development Finance (NaBFID) is now fully equipped and will be able to support banks with infrastructure loans, including green projects. National Asset Reconstruction Company Ltd – the bad bank – is also supposed to reduce the burden of bad loans on banks to create room for new lending.
Banks have established 75 digital banking divisions, adding new spaces for financial inclusion that can be leveraged to rapidly ramp up resources and digital lending. The pilot rollout of a central bank digital currency (CBDC), even for retail use, should accelerate the rate of digital penetration and ultimately reduce the circulation of physical money. Given the strengths of next-generation opportunities in 2023, banks should explore technology-led innovations to set new global benchmarks.
