Why Deposit Growth is at a Twenty-Five Year Low


The Reserve Bank of India releases the aggregate deposits with scheduled commercial bank data every week.

Data released on April 22, 2016, suggests that for the year 2015-2016, the aggregate deposits with scheduled commercial banks grew by 9.72%. This is the lowest in more than 25 years and the second lowest in more than 50 years.

Only in 1990-1991, the year before economic reforms were introduced, had the growth been slower at 9.65%. Also, this is the second lowest deposit growth since 1963-1964. Further, it is only the second time that deposit growth has been in single digits since 1963-1964.

And this is a worrying trend.

Why is this happening? One reason is that household savings as a whole have fallen over the years primarily because of the high rate of inflation that prevailed between 2008 and 2013. The household savings fell from 22.2% of gross national disposable income in 2011-2012 to 17.8% in 2013-2014. More recent data points are not available.

The household financial savings was at 7.5% of gross national disposable income in 2014-2015. As the RBI annual report for 2014-2015 points out: “Growth in aggregate deposits, which forms a major component of money supply, has generally been declining over the years in line with a decrease in the saving rate of the economy. In addition, slowdown in credit growth led to lower deposit mobilisation by banks.”

Raghuram Rajan, the governor of the Reserve Bank of India (RBI), has also offered another reason, whenever this question has been put to him. When deposit growth was faster inflation was also higher, he has explained. In 2010-2011, the aggregate deposits with scheduled commercial banks grew by 15.3%. The consumer price inflation during the year was at 10.45%. In 2012-2013, the deposits grew by 13.8% and the inflation was at 10.44%.

In 2015-2016, the consumer price inflation was 4.83% and the deposit growth was at 9.72%. Once we look the growth from this angle, suddenly it doesn’t look as bad.

In fact, there is another important reason for the fall in the aggregate deposits growth and this reason is not so obvious.

The loan growth of banks (i.e. non-food credit) has been slow over the last few years and this has led to slower deposit growth as well.

In 2015-2016, the total amount of loans given by scheduled commercial banks grew by 10.3%. This was better than the 9.3% growth seen in 2014-2015, but low nonetheless. In fact, the loan growth in the last two years has been the slowest since 1993-1994.

This has had an impact on deposit growth. And how is that? As Michael McLeay, Amar Radia and Ryland Thomas of the Bank of England write in a note titled Money Creation in the Modern Economy: “The vast majority of money held by the public takes the form of bank deposits. But where the stock of bank deposits comes from is often misunderstood. One common misconception is that banks act simply as intermediaries, lending out the deposits that savers place with them. In this view deposits are typically ‘created’ by the saving decisions of households, and banks then ‘lend out’ those existing deposits to borrowers, for example to companies looking to finance investment or individuals wanting to purchase houses.”

As it turns out, things are not as straightforward as that. As the Bank of England authors write: “Commercial banks create money, in the form of bank deposits, by making new loans.”

How is that possible? Let’s say an individual deposits money in a bank. The bank uses that money to make a car loan (assuming that the deposit is large enough). The money is deposited into the account of the borrower. The borrower of the car loan uses that money to buy a car and pays the car dealer. The money is deposited in the account of the car dealer. The car dealer in turn uses that money to pay his employees.

The employees when they are paid, money is deposited into their savings bank accounts. Hence, a loan creates more deposits. The employees then withdraw a part of that money to meet their monthly expenditure. They may also transfer a part of their deposit from a savings bank account into a fixed deposit.

A part of the money that the employees withdraw goes towards paying their local kirana wallah(or the mom and pop shop) from where their monthly grocery is bought. A part of this spend again finds its way back into the bank as a deposit.

This multiplier effect essentially ensures that new loans create more deposits. And given that loan growth of banks has been slow, it is not surprising that deposit growth is slow as well. Hence, for deposit growth to pick up loan growth will have to pick up.

And what needs to happen for loan growth to pick up? The simplistic answer is that lower interest rates will lead to higher loan growth. But things are not as simple as that. Interest rates also need to be maintained over the prevailing rate of inflation in order to encourage people to save. Further, lower interest rates do not always encourage people to borrow, as is more than obvious across large parts of the Western world, currently.

What needs to improve is the promoter interest in doing new business for which they need to borrow.

As Mahesh Vyas of Centre for Monitoring Indian Economy wrote in a recent piece: “Why do a significantly large number of projects continue to be stalled when most important reasons for phenomenon have already played themselves out? The most prominent reason turns out to be lack of promoter interest. One third of the total investments whose implementation was stalled in 2015-16 was because of lack of promoter interest. Another 15 per cent of the promoters who stalled implementation stated that the current market conditions were unfavourable to pursue their projects further. The two reasons are essentially the same – that these are not very good times to invest.”

The column originally appeared on The 5 Minute Wrapup on April 29, 2016

What Narendra Modi can and should do for Indian real estate

I am getting into a habit of writing trilogies. This is my third column this week on real estate, after writing three columns on oil sometime back. And I decided to write this column after a friend asked me to “stop ranting” and come up with something constructive instead. So here we go.
First and foremost it is important to realize why a healthy real estate sector is necessary for economic growth. Real estate has tremendous forward as well as backward linkages, which leads to what economists refer to as the “multiplier” effect.
The multiplier effect can be both direct as well as indirect. The direct effect comes from the demand in the construction sector for products from other sectors. A house that is being built needs cement, wood, glass, bricks, sand, electrical equipment etc.
As Fatih Terzi and Fulin Boren write in a research paper titled
An Analysis of the Development Between Housing and Economic Development: “The multiplier effects of housing [come] through the creation of investment in other sectors generated by the demand in the construction sector for their products. The builders buy raw materials for the building and hire transport to move them.” These are essentially referred to as backward linkages.”
Then there are forward linkages as well. “The occupants of the houses buy furnishings and fittings, and pay for maintenance, all of which creates paid employment and the use of materials,” write Terzi and Boren.
The indirect effect comes because of the money being spent in the local economy by those benefiting from the direct effect of construction of homes. As Keith Wardrip, Laura Williams, and Suzanne Hague write in a research paper titled
The Role of Affordable Housing in Creating Jobs and Stimulating Local Economic Development: A Review of the Literature: “During the construction of affordable housing — or any kind of housing, for that matter — the local economy benefits directly from the funds spent on materials, labor, and the like. If the builder is purchasing windows and doors from a local supplier, the supplier may have to spend money on materials and hire additional help to complete the order – examples of indirect effects. Finally, the construction workers, glass cutters, and landscapers are likely to spend a portion of their wages at the local grocery store or shopping mall, which illustrates induced effects.”
One estimate puts the number of total such linkages to 270. Given these reasons a vibrant estate sector is a necessity for a vibrant economy. In fact, a study commissoned by HUDCO found that housing came third among 14 major sectors, in terms of the linkages that it had with other sectors. This tells us how closely linked a vibrant real estate sector is to the overall economy.
The latest Economic Survey of the government makes this point as well when it states: “Housing activities have both forward and backward linkages which not only contribute to capital formation, generation of employment, and income opportunities but also to economic growth. Estimates show that every rupee invested in housing and construction adds 78 paise to the GDP.”
Nevertheless, these linkages come into play only when homes being built are also being sold. But as we saw
in the column published on January 19, 2015, that doesn’t seem to be the case. Most homes being sold in cities are way beyond what most people can afford. In fact, a friend on reading the January 19 column quipped, “forget taking on a loan to buy a home, how many people even have enough money to make the 20% down payment required on the home”. Typically, most banks finance up to 80% of the home price. The remaining money needs to be made by the borrower of the loan as a downpayment.
Given this, affordable housing is something that should be a huge priority for the government. The
Report of the Steering Committee on Urbanization released in November 2012 points out: “approximately 24 percent of India’s urban population resides in slums. The proportion of slum dwellers in large metropolitan areas is higher. For example, according to Census 2011, 66 percent of the population in Mumbai Metropolitan Region (MMR) lives in slums.”
Further, “not all slum dwellers are poor but the extreme scarcity of housing for low income groups has led to them living in slums.” Living in slums also leads to inadequate access to basic sanitation facilities and potable water.
The issue of affordable housing becomes even more important when one takes into account the fact that the number of people living in cities is going up day by day. “Nearly 30 per cent of the country’s population lives in cities and urban areas and this figure is projected to reach 50 per cent in 2030. The present urban housing shortage is 18.78 million units of which 95.6 per cent is in economically weaker sections (EWS) / low income group (LIG) segments and requires huge financial investment,” the Economic Survey points out.
So, the question is what can the Narendra Modi government do to making housing more affordable? The solutions on offer are not easy to implement. Neither can they change things overnight. Nevertheless, the work needs to start someday and the sooner it starts the better it will be.
The situation can be improved significantly if some of the land that the government has been sitting on can be made available for affordable housing. KPMG in a report titled 
Affordable Housing – A key growth driver in the real estate sector points out “The government holds substantial amount of urban land under ownership of port trusts, the Railways, the Ministry of Defence, land acquired under the Urban Land (Ceiling and Regulation) Act, the Airports Authority of India and other government departments.”
The question is will this happen? More land in the market will lead to land prices falling. And this is something politicians will not like given that their ill-gotten wealth is held through
benami land as well as real estate. As Bombay First points out in a report titled My Bombay My Dream “Government and the land mafia in fact do not want more land on the market: after all, you make more money out of the spiralling prices resulting from scarcities than you could out of the hard work that goes into more construction.”
Nevertheless the basic issue is the huge amount of black money that comes into the real estate sector. If real estate has to become affordable something needs to be done on this front. While the Narendra Modi government has been very aggressive about getting back all the black money that has gone abroad, they haven’t said much about trying to recover the black money that is there in the country.
This money would be considerably easier to recover vis a vis the black money that has already left the shores of the country. Also, in this day and age a lot of information technology can be used to figure out who are the individuals who are not paying taxes.
The government can learn from what happened in Greece. In order to recover black money, the Greek government used Google Earth to track those who have swimming pools and then cross indexed their address with the amount of tax they are paying. Ideas along similar lines which use information technology extensively in order to identify people who are not paying the correct amount of income tax, need to be come up with.
In the February 2013 budget speech, the then finance minister P Chidambaram had estimated that India pointed out that only 42,800 people in India had a taxable income of Rs 1 crore or more.
This in a country where 27,000 luxury vehicles are sold every year. Self employed professionals like property dealers, doctors, etc., need to be made to pay their fair share of income tax.
Of course, the income tax department does not have the resources to go after everybody. Hence, it is necessary that a few pilot projects may be implemented in different parts of the country and depending on results things can be taken forward.
I am no expert on real estate but I am sure that there are lots of other things that can be done to break the backs of those who are pouring their black money into real estate. The only thing required is the political will. The question is does Narendra Modi have that will? The nation wants to know.

(The column appeared on www.equitymaster.com as a part of The Daily Reckoning, as on January 22, 2015)