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Why are Deposit rates escalating? What are the consequences?

Deposit rates of respective institutions are issued by CRISIL, where they evaluate all cash flows of the institution

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Deposit rates are the interest rate or returns gained by depositors in financial institutions or NBFCs (Non-banking financial institutions). Where banks or financing institutions act as an intermediary between you and rest of the world.

deposit rates

Deposit rates of respective institutions are issued by CRISIL, where they evaluate all cash flows of the institution. CRISIL estimates deposit rates by Mean return and volatility, Active returns, liquid analysis, asset quality, portfolio concentration analysis.



From past 2 months all the financing institutions had increased their deposit rates, Most of the lenders or investors for banks have stopped depositing their surplus, as they are not fascinated with the deposit rates as we all know investing in mutual funds or equities with proper financial analysis is the best investment, all surplus of the people has come into stock market with the help of depository participants and brokers. Loss of clients was one of the factors for the hike in deposit rates.



I’m a huge consumer of Cavin’s hazel-nut milkshake, it costs Rupees 40 per 200ml of milkshake. A month ago, it was rupees 35 for the same quantity, similarly all the prices of necessities and services consumed by people are rising which all come under CPI (Consumer Price index). Due to rise of in CPI, inflation is booming in last 3 quarters around the globe, which is another factor for the rise in deposit rates.



Consequences of increase in Deposit and lending rates



As deposit rates arose apparently lending rates will also rise. If lending rates rise, it is a big problem form many SMEs which run of long term loans. As SMEs are pervasive in India, When there is an effect on SME it eventually effects whole economy of the country as major portion of India is operated by SMEs. 



When people lend money at a higher rate, uncertainty of repayment increases i.e. risk for issuer increases. In India as most of the loans are issued by banks, when repayment is at risk, banks fall. Even Bailing out becomes an hectic for government, so to control all the consequences govt asks Banks to show SLR (Statutory Liquidity ratio),in order to reach SLR, RBI lends short term loans to banks with REPO rate and Reverse REPO rate. 



As per the current demand and shortage of supply inflation is going to kick every kin and corner of the world, so we can expect a hike in deposit rates in next quarter. And breakage in supply chain is another factor that is effecting the price. Let’s take the example of gas and oil, price of both commodities rose by a large margin. Brazil shares a large portion of world’s production of gas, as there is a drought in Brazil, production got down and UK have started implementing new regulations for the truck drivers from Scotland, even with surplus gas filled in containers there are no drivers to transport them and due to reopening of economics i.e. post COVID period, demand of goods have arose vastly which eventually effected the price of goods.



As everything i.e. surplus, balance of payments are interconnected with dollar, when America hits with inflation it impacts all the countries around the globe. When prices rise globally, it apparently leads to imported price rise, in simple words, every good or service we import becomes costlier. High hike in inflation in developed countries forces their federal or central banks to tight their monetary policies. Tight monetary policy increases interest rates for borrowers. Central banks will increase the deposit rates to stop borrowing and to start saving. When interest rates rise in India, it hits the cost of production by a large margin. Which again creates imbalance between demand and supply, eventually inflation comes into picture.



Is it advisable for investors to invest in FDs?



It depends on the future purpose of the investment. If the investment is for short-term, then investing in FDs is advisable. If the purpose or tenor of investment is long-term then it is advisable to invest in inflation-linked bonds or equities or in mutual funds.



Inflation-linked bonds are called as treasury inflation protected securities (TIPS) in United states. To keep it simple principal value of the bond is inter-linked with inflation of the country i.e., regular coupons are linked with spot inflation rate of the country. And It is advisable than FDs, returns in FD is comparatively less than bonds. If the investor can bear high risk, then investing in equities is a better option as the expected return is high. 



The article has been written by Kushal Challa, MBA Financial Services, Woxsen University



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