Credit risk not properly assessed by banks, SBI report says

Banks are mispricing credit risk as liquidity conditions tighten and interest rates remain high, the State Bank of India said in a research report.

Over the past few months, the Reserve Bank of India (RBI) has made early rate hikes and calibrated excess liquidity in the banking system as it seeks to contain high inflation.

As liquidity conditions eased in November on the back of accelerated government spending, the average sustainable net liquidity injected into the banking system fell to 3 trillion rupees from 8.3 trillion rupees in April, it said. SBI Research in its latest “Ecowrap” report. .

“Even though the banking system has moved closer to calibrated liquidity coupled with higher signaling rates, one thing has still not changed; that is, credit risk is not being properly accounted for, even as demand for credit hits decade highs and liquidity remains significantly reduced,” the report from the largest lender said. Indian.

“An envelope return estimate suggests that the base funding cost of the banking system is currently around 6.2%, while the repo rate is 5.65%. No wonder banks are currently engaged in a fierce war to increase deposits, with rates as high as 7.75% under certain circumstances,” he said.

RBI Governor Shaktikanta Das said earlier this year that banks cannot “constantly” rely on central bank money to support the credit drawdown and must raise their own funds and resources.

After 2020, the RBI injected large amounts of liquidity into the banking system to ensure credit to productive sectors amid the COVID-19 crisis. However, in 2022 the central bank began to withdraw its accommodative measures and raise interest rates as inflation remained well above its target.

The latest data from the RBI showed that as of October 21, bank credit growth was 17.9% year-on-year, while deposit growth lagged far behind at 9.5%. The need to raise funds to finance aggressive credit growth has pushed banks to pay higher interest rates in the market.

“Banks are currently mobilizing certificates of deposits (CDs) at rates as high as 7.97%, for a maturity of 360 days. Additionally, few banks raised the CD to 7.15% for a 92-day maturity,” the SBI report said.

“A significant part of the financing gap is therefore also filled by the mobilization of CD. CDs in circulation stood at Rs 2.41 lakh crore as of October 21, 2022, compared to just Rs 0.57 lakh crore a year ago,” he said.

According to the SBI research team, it is curious to note that while the banking system has experienced episodes of net liquidity deficits, the risk premiums, beyond the basic cost of funding, do not hold sufficiently credit risk account.

“For example, short-term working capital loans of less than one year are granted even with finer rates below 6% tied to 1M/3M cash bond rates. 10 and 15-year loans are priced at less than 7%,” the report said.

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