Peak demand for metals, electricity, chemicals and engg

Any prognosis for the future must be based on the heroic assumption that the pandemic is behind us and even with a new wave, lockdowns will not be the answer. Without this assumption, it will be difficult to make a calculated estimate, as deadlocks can set business back significantly.

So, what will things look like for the banking industry under these assumptions? The past two years have been unique for the financial industry. The emphasis was on maintaining the solvency of the system and the Reserve Bank of India (RBI) as well as the banking system had an important role to play. The central bank has taken the lead with various initiatives such as liquidity support, moratorium, relaxation of regulatory standards, etc. Banks have played their role in ensuring that RBI policies, like the TLTRO, are implemented. In this context, the essential banking functions of deposit taking and lending have taken on a different form. This will all change in 2022.

The first is the action of the RBI. Now, it seems more than likely that the central bank will raise rates. The minutes of the Monetary Policy Committee (MPC) strongly support this thinking. We can expect a 25 to 50 basis point increase in the repo rate with the first hike in April. In addition, the reverse repo rate would tend to fall back into the 25 bps band below the repo rate, the first step being taken in February.

Second, the RBI’s tone would shift from an accommodative to a neutral stance, which would be in line with the rate hikes. It should be mentioned here that the accommodative position should be interpreted as one where there would be no immediate rate hike.

Third, the system will have to be drained of its excess cash and that would be the biggest challenge for the RBI. Right now, the market is taking the plunge by getting nervous about the 3VR or any surprise forward reverse repo auction. Reverse repo auctions, as the RBI Governor often reiterates, are voluntary and only give banks the choice to park their excess funds for a longer period and earn a higher return. It is not like an OMO where funds are taken out of the system when they return to banks after the term expires. Therefore, at some point a decision has to be made to withdraw these excess funds through OMOs or any other innovative instrument depending on the demand for credit. The mirror image here is that GSAP and TLTRO type metrics will remain on the periphery of the framework but could still be used in times of tight liquidity.

Fourth, we expect credit growth to accelerate this year, with all segments showing strong growth. Banks are now comfortable with their portfolio and its stratification as the challenges posed by AQR have been addressed and the willingness to lend quotient has increased. Generally, we can expect higher demand from industries such as metals, energy, chemicals and engineering.

Fifth, while we have again seen the dominance of cash in our daily lives, the digital migration will be significant with all banks working on the same. Talks are underway for a central bank digital currency, which, although an idea today, would come to fruition within the year. It really means that an alternative experience is offered to customers. Beside, we can also see the greater use of AI in credit evaluation which will add a new dimension on the asset side.

Finally, for banks, a thorough review of their balance sheets will be required. Higher rates would mean reshuffle margins. This will also affect the valuation of the investment portfolio and therefore the gains for this purpose would be recalibrated. Growth in deposits is what bankers take for granted, but stock markets, mutual funds and cryptos have provided competition as households weigh options. As a result, the demand for credit would increase and liquidity would tighten.

These are possibilities that will allow bankers to work during the day and think more at night.