Banks were challenged in 2022 by the sluggish growth in deposits, which have not kept pace with credit. One reason is that deposits, unlike debt mutual funds, do not offer any tax breaks
Public sector banks (PSBs) are in a fairly strong position today after going through a rather stressful period following the asset quality review five years ago. Profits are looking good, and more importantly, provisioning for bad loans has come down. The Insolvency and Bankruptcy Code is in motion, as is the National Asset Reconstruction Company, and hence the resolution part of the story is also addressed to a large extent, though it is a work in progress.
The Budget will be presented against the background of a possible recession in the West which will go hand-in-hand with a regime of high interest rates. India will still be the fastest-growing economy, at least numerically, though admittedly a plethora of issues need to be addressed. What would be the areas of interest for banks in this Budget?
First is the question of whether or not the government will make a provision for capitalisation of PSBs?
This is important because, while growth in credit will slow down, it will still be above 10 per cent. While lower provisioning and higher profits, which come in a rising interest rate regime, will lead to increase in net worth, there could still be a case for some capital infusion, especially if the investment cycle is to start moving. A factor that may also work in favour of domestic credit is the regime of high interest rates in the West, which will make external commercial borrowing dearer when combined with the depreciating rupee. Hence, having access to capital would help.
Second, banks have been challenged in 2022 by the phenomenon of sluggish growth in deposits, which have not kept pace with credit. One of the reasons is that deposits do not curry any tax favour. Debt mutual funds, for example, which compete with deposits, provide tax breaks if held for over three years. There is a legitimate demand here for parity on tax treatment, so that bank deposits regain their attractiveness.
Third, the fiscal deficit will be of interest for banks. This is so because it will determine the gross borrowing programme of the government, which has to be supported by the banking system. In FY24, there will be repayments of around Rs 4.5 trillion, which will push up the gross borrowing programme. The conundrum this time is that banks are facing a paucity of funds, with growth in deposits lagging. Hence, if a large borrowing programme has to be supported, there could be further pressure on liquidity. Excess investments under the statutory liquidity ratio are currently upwards of 8 per cent for most banks.
Fourth, the policy-level stance on the Emergency Credit Line Guarantee Scheme will be of interest, as it has run well so far. The questions that will be waiting to be answered are whether or not there will be a sunset clause; and whether an extension will be provided to more sectors. Small businesses have benefited from this scheme, or else it would have been hard for them to borrow from banks.
Fifth, the view taken on interest payments by the government will intuitively provide a clue on the direction of interest rates (assumed by the government). It is widely expected that after the February policy, the Monetary Policy Committee will pause on rate actions before lowering the repo rate. The interest cost assumed in the Budget will throw some light on how the central bank will be managing the liquidity situation.
Sixth, PSBs will also be waiting to hear more from the government on its stance on privatisation of some of them, as this was proposed a couple of years back, but has not been taken up so far.
The budget will definitely be a prelude from where the RBI will take over in its February policy.
The writer is Chief Economist, Bank of Baroda, and author of Lockdown or Economic Destruction? The views are personal