Liquidity Coverage Ratio
The recent draft circular released by the Reserve Bank of India (RBI) on the Liquidity Coverage Ratio (LCR) has significant implications for the way banks assess the value of deposits, particularly in the context of digital banking.
This shift highlights a crucial distinction between deposits based on their accessibility and the potential for rapid withdrawal.
The Value of Deposits in the Digital Age
Under the new guidelines, deposits that are accessible through UPI, mobile, or internet banking are assigned a higher run-off factor compared to those without such access.
Specifically, stable retail deposits with digital banking capabilities will have a 10% run-off factor, while less stable deposits will see a 15% run-off factor.
This means that a deposit of Rs.10,000 made by your mom with UPI is considered riskier for the bank than the same amount deposited by someone without such access, like a traditional savings account holder—such as your mother[1][3][4].
This change is driven by the lessons learned from events like the rapid withdrawal of funds from Silicon Valley Bank, where 45% of deposits were withdrawn almost instantaneously via digital transfers.
Such occurrences prompted regulators worldwide to reconsider the stability of deposits, especially in the context of digital banking's influence on liquidity[1][3].
Implications
The RBI's draft circular reflects a broader trend in banking, where the ability to withdraw funds quickly can lead to liquidity challenges. The circular suggests that banks may need to maintain a larger buffer of high-quality liquid assets (HQLA) to accommodate these potential withdrawals.
As a result, banks might increasingly value branch banking, which is perceived as more stable since customers are less likely to withdraw funds based on fleeting information or rumors spread through social media[1][4].
Moreover, the circular stipulates that deposits that are pledged as collateral will also be treated as callable for LCR purposes, further complicating how banks manage their liquidity. This means that even non-callable fixed deposits could be considered at risk if they are used as collateral, as they can be accessed quickly by the lender[1][3].
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Future Directions
As the RBI prepares to implement these guidelines by April 2025, banks will need to reassess their liquidity management strategies.
The expectation is that they will look to increase their reliance on less callable deposits, such as wholesale funding, which may come at a higher cost but offer greater stability in times of financial stress.
This shift could also lead to better interest rates for depositors, as banks seek to attract more stable funding sources to mitigate liquidity risks[1][3][4].
In conclusion, the RBI's draft circular on the LCR underscores a pivotal moment in Indian banking, where the nature of deposits—especially in the digital era—will dictate how banks manage liquidity and assess the value of customer deposits.
This evolution in banking practices reflects a broader understanding of the risks associated with rapid digital transactions and the need for banks to adapt to these challenges.
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