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Prisoner's Dilemma
RBI’s move to de-regulate interest rate on savings deposit will create a
‘prisoner’s dilemma’ in the banking sector where larger banks should act
in their collective interests. While currently most banks are focussed on
profitability, cost of irrational competition among larger banks has risen.
Aggressive strategies of smaller banks may not be as disruptive. Cost of
deposits will rise and if banks are unable to fully transmit it the impact
may be 2-4% of earnings. Smaller banks can leverage on new regime to
build liability franchise, but incumbents have the advantage of customers’
loyalty; Tier II PSU banks are worst placed. With 25bps hike in policy
rates RBI may pause as growth and inflation are moderating. We prefer
banks with superior liability franchise, high ROA and stronger asset
quality- HDFC Bank and ICICI are our top picks.
All or None: ‘Mantra’ in a de-regulated regime
�� The de-regulation of interest rate on savings deposit (+20% of total) will push
banks to act for greater common good, rather than in individual interests, a
behaviour best explained by the ‘Prisoner’s Dilemma’ concept of game theory.
�� Though banks are focussed on profitability, an aggressive competitive strategy
by one large bank can have significant repercussion for the sector.
�� New rate on such deposits may be set based on rates for short-term retail
deposits (up to 45 days) that currently are in the range of 4-6%.
�� However, banks are unlikely to raise rate on these deposits closer to wholesale
deposits because (1) depositors get additional services that add to banks’ cost
and (2) savings deposits are not committed to any tenure.
�� Assuming 50bps hike in cost of savings deposits, banks may see up to 17bps
rise in cost of funds which they may seek to pass-on to borrowers.
�� However, it can also have a negative impact loan growth and asset quality.
�� If banks pass on half of the inflation in costs, earnings impact may be 2-4%-
greater for banks with high share of savings deposits and lower ROA.
�� SBI may see higher earnings impact than ICICI, HDFC Bank and Axis (fig 5).
Opportunity for low CASA banks; risk for Tier II PSU banks
�� A de-regulated regime will offer opportunity to banks with smaller CASA
franchise, like Yes and IndusInd, to gain market share by offering higher rates.
�� However, incumbents enjoy the advantage of customer loyalty because of
wide-spread branch network, convenience and quality of service.
�� Our recent survey of over 1,500 people, in 350 towns, indicates that most are
unlikely to change banks merely to earn higher income on savings deposit.
�� Tier II PSU banks (~40% share in saving deposits) are most vulnerable.
Policy rates raised by 25bps; RBI to pause as growth is slowing
�� In line with expectations, the RBI raised the policy rates by 25bps (repo rate at
8.5% and reverse repo rate at 7.5%); cumulative hike of 400bps since Mar-10
�� Reserve requirements stay unchanged- CRR (6% of liabilities) and SLR (24%).
�� However, recognising the moderation in economic growth and peaking
inflation, RBI has (1) cut its projection of real GDP growth for FY12 from 8% to
7.6%, (2) retained projection for WPI at 7% and (3) indicated low probability
of another rate hike at the mid-quarter review of monetary policy in Dec-11.
New norms for mortgage loans
�� Banks have been asked to discontinue levy of pre-payment charges on floating
rate retail loans (mostly mortgage) and may be asked to unify lending rate to
current and new home loan customers.
�� The impact of discontinuing pre-payment charges will be marginal. While the
impact of uniformity in interest rates on mortgages may be higher, its
implementation will be quite subjective and hence impact is not clear.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
Prisoner's Dilemma
RBI’s move to de-regulate interest rate on savings deposit will create a
‘prisoner’s dilemma’ in the banking sector where larger banks should act
in their collective interests. While currently most banks are focussed on
profitability, cost of irrational competition among larger banks has risen.
Aggressive strategies of smaller banks may not be as disruptive. Cost of
deposits will rise and if banks are unable to fully transmit it the impact
may be 2-4% of earnings. Smaller banks can leverage on new regime to
build liability franchise, but incumbents have the advantage of customers’
loyalty; Tier II PSU banks are worst placed. With 25bps hike in policy
rates RBI may pause as growth and inflation are moderating. We prefer
banks with superior liability franchise, high ROA and stronger asset
quality- HDFC Bank and ICICI are our top picks.
All or None: ‘Mantra’ in a de-regulated regime
�� The de-regulation of interest rate on savings deposit (+20% of total) will push
banks to act for greater common good, rather than in individual interests, a
behaviour best explained by the ‘Prisoner’s Dilemma’ concept of game theory.
�� Though banks are focussed on profitability, an aggressive competitive strategy
by one large bank can have significant repercussion for the sector.
�� New rate on such deposits may be set based on rates for short-term retail
deposits (up to 45 days) that currently are in the range of 4-6%.
�� However, banks are unlikely to raise rate on these deposits closer to wholesale
deposits because (1) depositors get additional services that add to banks’ cost
and (2) savings deposits are not committed to any tenure.
�� Assuming 50bps hike in cost of savings deposits, banks may see up to 17bps
rise in cost of funds which they may seek to pass-on to borrowers.
�� However, it can also have a negative impact loan growth and asset quality.
�� If banks pass on half of the inflation in costs, earnings impact may be 2-4%-
greater for banks with high share of savings deposits and lower ROA.
�� SBI may see higher earnings impact than ICICI, HDFC Bank and Axis (fig 5).
Opportunity for low CASA banks; risk for Tier II PSU banks
�� A de-regulated regime will offer opportunity to banks with smaller CASA
franchise, like Yes and IndusInd, to gain market share by offering higher rates.
�� However, incumbents enjoy the advantage of customer loyalty because of
wide-spread branch network, convenience and quality of service.
�� Our recent survey of over 1,500 people, in 350 towns, indicates that most are
unlikely to change banks merely to earn higher income on savings deposit.
�� Tier II PSU banks (~40% share in saving deposits) are most vulnerable.
Policy rates raised by 25bps; RBI to pause as growth is slowing
�� In line with expectations, the RBI raised the policy rates by 25bps (repo rate at
8.5% and reverse repo rate at 7.5%); cumulative hike of 400bps since Mar-10
�� Reserve requirements stay unchanged- CRR (6% of liabilities) and SLR (24%).
�� However, recognising the moderation in economic growth and peaking
inflation, RBI has (1) cut its projection of real GDP growth for FY12 from 8% to
7.6%, (2) retained projection for WPI at 7% and (3) indicated low probability
of another rate hike at the mid-quarter review of monetary policy in Dec-11.
New norms for mortgage loans
�� Banks have been asked to discontinue levy of pre-payment charges on floating
rate retail loans (mostly mortgage) and may be asked to unify lending rate to
current and new home loan customers.
�� The impact of discontinuing pre-payment charges will be marginal. While the
impact of uniformity in interest rates on mortgages may be higher, its
implementation will be quite subjective and hence impact is not clear.
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