Credit-Deposit (CD) Ratio

• The Credit-Deposit (CD) Ratio is a significant financial metric that indicates the percentage of total loans a bank has issued relative to its total deposits. 
• This ratio shows how much of the bank’s deposits are being used for lending purposes. 
• It is calculated using the following formula:

• A higher CD ratio indicates that a significant portion of the bank’s deposit base is being used for loans, reflecting aggressive lending activity.

Significance of CD Ratio

Economic Implications

• A higher CD ratio generally indicates that the bank is channelling a substantial portion of its resources into loans, which can help stimulate economic growth. 
• This leads to greater credit availability for various sectors, such as businesses, MSMEs (Micro, Small, and Medium Enterprises), and retail customers, driving economic activity.

Risks Associated with High CD Ratio

• However, a very high CD ratio can also be risky, as it implies the bank is lending a large portion of its deposits. 
• If loans are not repaid, it may result in non-performing assets (NPAs), which can threaten the bank’s stability and solvency.

Recent Trends in CD Ratio

• According to the RBI Financial Stability Report, the CD ratio reached 78.8% in December 2023, marking its highest level since 2005. 
• This trend indicates that banks, especially private sector banks, are increasingly channelling a larger portion of their deposits into loans.
• More than 75% of banks with CD ratios above 75% are private sector banks, indicating that private sector banks are more aggressive in lending compared to their public sector counterparts.

Key Reasons for a High CD Ratio

Higher Credit Growth

• The rise in retail credit demand and increasing loans to businesses and MSMEs has driven the overall credit growth. 
• This is a positive sign for economic expansion, as it leads to higher investment and consumption.

Slower Deposit Growth

• There has been a shift in customer behaviour, with many customers moving funds from traditional savings accounts to investment-driven options, such as capital markets. 
• This shift has slowed down deposit growth, forcing banks to lend a higher proportion of their existing deposits to meet the rising credit demand.

Impact of High CD Ratio on Banks

Pressure on Net Interest Margins (NIM)

• Net Interest Margin (NIM) is the difference between the interest a bank earns on loans and the interest it pays on deposits.
• A high CD ratio can pressure NIM if a bank is lending at lower interest rates but is unable to attract sufficient deposits at higher rates. 
• This can negatively affect the bank's profitability.

Liquidity Risk

• When a bank has a high CD ratio, it may face liquidity risk, which means it might not have enough liquid assets to meet customer withdrawals or other financial obligations. 
• This can become problematic if a large portion of the bank's resources is tied up in loans, making it difficult to manage short-term liquidity needs.

Credit Risk

• A higher CD ratio increases the credit risk for the bank. If borrowers default on their loans, it could lead to higher levels of non-performing assets (NPAs). 
• This can damage the bank’s financial health and affect its solvency, leading to a loss of confidence in the bank’s stability.