Budget impact on banks
In today’s banking scenario, credit growth has far outpaced deposit growth. Customers have alternative investment options available, which fetch them better returns on money invested. This has resulted in a situation where banks are facing the problem of deposit mobilization. To lure depositors, the banking community has no other alternative but to give some incentives to them. The trend is catching up fast in the industry.
On this front, the problem of the bankers has been addressed by the Union Finance Minister P Chidambaram when he presented Budget 2006-07 on February 28 in the Parliament. Now, the Finance Minister has made Fixed Deposit more attractive. The move to include bank fixed deposits with a maturity period of 5 years and above under Section 80C of the Income Tax Act will aid deposit growth, as these will now qualify for tax exemption. This will increase the availability of funds with the banking system.
Further, the move to unwind the non-tradable special securities by converting them into tradable SLR government securities, coupled with the increase in FII investment in government securities from $1.75 billion to $2 billion, and in corporate debt from $0.5 billion to $1.5 billion, will develop these markets and will provide additional resources to banks for lending to the productive sectors.
Notably, the bankers’ wish list before the presentation of the Budget ranged from tax sops to the interest income earned from fixed deposits. The banking community had expected some treatment to be given to the interest on fixed deposits under section 80C of the Income Tax Act. There plea was that if one can get sops on investment of post office schemes, then there is no reason why one should not get such benefit from fixed deposits.
The Indian Banks Association (IBA) had suggested that bank deposits should also be included as a part of permissible overall investment of Rs 1 lakh under section 80C. IBA had stated that in order to ensure minimum tenure of savings, there was need to stipulate that deposits with a certain minimum tenure, for example 3-5 years, would be eligible under this. This would allow the bank deposits to compete with other investment avenues permitted, although the impact of withdrawal of 80L benefit would still be felt by the banking industry.
It is worth mentioning that bank deposits form more than 40% of the total house hold savings and are considered to be the core of portfolio of almost every household.
As the Budget has rural focus, the banking sector has been provided with an opportunity of new avenues of growth. The Banks have been given directed to increase the level of farm credit to Rs.1,75,000 crore in 2006-07, an increase of about Rs.33,500 crore. In addition banks have been advised to bring into banking fold 50 lakh more farmers. Despite all this, banking system will not cover even half of the credit demand for agriculture sector. Currently, this sector is informally financed at exorbitant interest rate ranging from 20 per cent to over 40 per cent. However the decision to provide agricultural credit at 7% is a double-edged sword for the banks and will put their spreads under pressure.
The government has proposed that those farmers who have availed of crop loans from scheduled commercial banks, regional rural banks and primary agricultural cooperative societies for the Kharif and Rabi season of 2005-06, will be granted relief. It has been announced that “an amount equal to two percentage points of the borrower’s interest liability on the principal amount up to Rs.1,00,000 will be credited back to accounts before March 31, 2006. This move is expected to cost the exchequer Rs.1,700 crore this fiscal. However, no provisions have been made for the next year (2006-07) in the Budget.
Dr. Haseeb Drabu, Chairman of JK Bank and economic advisor to the State government, says that on the real side, the union Budget continues to the “new deal for rural India” started last year. This continued focus will help remove the supply side constraints thereby expanding home market demand.
“On the fiscal side, interest rates and exchange rate are the two imponderables, which could constrain the growth impulses. A rise in the interest rate is imminent, emanating from tightness in liquidity. This, in the extant global environment can lead to reduced foreign flows, and an adverse movement in the exchange rate sparking off a vicious circle. Much will depend on how the monetary policy is made to complement the fiscal policy underlying the budget,” says Dr. Drabu.
It is a naked fact that the farming community continues to suffer for want of accessibility and a flexible credit delivery mechanism. Majority of the farming community faces acute shortage of funds and banks continue to ignore them. Budget contains concessions to the farming community, but the fact remains that these measures cannot help to expand credit to agriculture sector. Farmers need money and they want when they need it. Rate of interest is no issue for them. For them access to the credit is important than the cost involved in raising the money. The banks need to lay emphasis on building a dedicated credit cadre to understand and meet the farmers’ credit demand. In other words, the focus should be on making credit available to the farming community in a most flexible manner and not at what rate the credit is disbursed. Once volume of credit to agriculture sector increases, the rate of interest will automatically come down.
Meanwhile, the classification of food processing under the priority sector will increase lending to the sector. The industry declared as focus industry by the J&K state government will give a fillip in dispensation of credit to this industry. Further, the proposal to create a ‘Committee for Financial Inclusion’ in order to suggest means to increase credit to cultivator households, will provide a boost to lending to the rural sector.
Notably, the reduction in excise duty on small cars from 24 to 16 percent will provide a boost to car demand and to the car financing business. The reduction is likely to result in lowering of small cars prices by Rs.11000 to Rs.22000.This will also lead to more competition in the car financing segment.