If you invest in fixed deposits (FDs), you will be happy to know that the era of rising interest rates on fixed deposits is not over yet. Some factors that indicate this is credit growth remaining much higher than deposit growth; the recent decision of the Reserve Bank of India (RBI) to increase the investment limit of non-callable deposits to Rs 1 crore; and the expected higher food inflation due to El Niño hitting India’s food production.
As an FD investor, you can take advantage of rising interest rates to invest in term deposits. But, first, let’s understand how interest rates of fixed deposits will be impacted in the short term and long term.
Know how FD interest rates will be impacted
After a decadal low, interest rates of fixed deposits rose significantly in 2022. This was primarily because the RBI hiked the repo rate by 2.5% from May 2022 to February 2023 to control inflation. Since April 2023, the central bank put a pause on the repo rate four times in a row. It has been 8 months since the RBI has raised the repo rate — the previous hike was in February — and most banks that were raising deposit rates now appear to have halted increasing interest rates on deposits. The talk of impending rate cut by the RBI has also been gaining traction.
However, it is also apparent that banks are nowhere close to raising their deposit rate by 2.5% — the hike in repo rate done by the RBI. Banks were quick to raise their lending rates, especially the EBLR-linked home loans to the tune of 2.5%. However, they are yet to transmit the full benefit interest rate transmission to the depositors.
The main reason why banks got a respite from the pressure to raise deposit rates was because they got a windfall gain from the withdrawal of Rs 2,000 currency notes from circulation. The withdrawal announcement in May strengthened the liquidity in the banking system by a great extent. So, many banks have been slow to raise interest rates on deposits. Not only that, some prominent banks have gone to the extent of reducing interest rates on FDs for certain tenures.
The question is will banks cut interest rates on deposits now, as the rate hike cycle is over? Abhijit Talukdar, Founder of Attainix Consulting, says, “Some banks may have started reducing FD rates, but this may be premature.” While the possibility of any policy rate cut by the RBI looks less likely in the near future, there are enough reasons to believe that banks will be under pressure to hike their deposit rates.
New RBI mandate can also increase interest rates on FDs
The RBI on October 26, 2023, increased the minimum amount for non-callable term deposits to Rs 1 crore, from Rs 15 lakh. Banks prefer deposits that stay for a longer period or are locked in for a certain period.When the limit for non-callable FD was Rs 15 lakh, many banks offered higher rates for deposits coming in through the no-premature-withdrawal option. Other retail depositors had to be content with a lower interest rate.
However, now that the RBI has raised the limit to Rs 1 crore, banks have no choice but to raise their interest rate on other deposits, including retail deposits, to attract more funds.
On how this decision will impact the FD investors, Anshul Gupta, Co-Founder and Chief Investment Office at Wint Wealth, says, “Some differences in rates between the callable and non-callable FDs will exist since, in non-callable FDs, investors are giving up the right of premature withdrawal. Hence, they need to be compensated for that. However, considering that the number of people who can invest in non-callable FDs will reduce now, the rates may increase slightly for FDs to bridge the demand gap.”
FD interest rates hike: All depends on banks’ credit demand
While an increase in this threshold for non-callable FDs will put some additional pressure on banks to raise FD rates, they will only do it only if they see higher loan demand. “The increase in the limit to Rs 1 crore for allowing premature withdrawals may cause an increase in interest rates for regular FDs over time but only if incremental credit demand remains high,” says Vishal Dhawan, a SEBI-registered investment advisor and Founder of Plan Ahead Wealth Advisors.
Going by the latest RBI data, bank credit increased by 19.7% year-on-year to Rs 154.3 lakh crore for the fortnight ended October 20, 2023. However, deposits grew only by 13.4% y-o-y to Rs 195.1 lakh crore for the fortnight. If this trend remains, banks will be compelled to raise retail deposit rates. “The decision to hike FD interest rates will largely be driven by the way credit demand picks up during the next two quarters,” Dhawan adds.
Inflation under comfort zone; no RBI rate hike likely this year
The rate of retail inflation fell to 4.87% in October, according to the data released by the Ministry of Statistics and Programme Implementation on November 13, 2023. The headline inflation remained within the RBI’s tolerance range of 2-6% for the second month in a row.
The most critical factor that led to the interest rate hike cycle was rising retail inflation due to supply chain disruption caused by the Russia-Ukraine war. With inflation remaining in the RBI’s comfort band, the central bank is likely to hold the repo rate for some more time.
Madhavi Arora, Lead Economist at Emkay Global, says, “We are currently tracking November inflation at 5.2-5.3% due to higher food prices. November, thus far, has seen prices of onions continually rising at a significant pace, with sustained increase for pulses as well. Food inflation is exhibiting a worrying trend, with sustained inflation for non-perishables (pulses, cereals, spices) keeping overall inflation elevated, along with transient-but-frequent price spikes for perishables.”
“With core inflation easing in October 2023, it will likely undershoot headline by 60 basis points in FY24E. We see FY24E inflation at 5.2% (RBI: 5.4%). With the ease of core inflation and relatively elevated food inflation in H2FY24, RBI is likely to keep rates ahead on hold, and not precede the Fed in any policy reversal in CY24,” she adds.
The central bank’s Monetary Policy Committee (MPC) may retain the repo rate at 6.5%, possibly up to the middle of 2024-25, says Gaura Sen Gupta, India Economist at IDFC First Bank. “Hence the monetary policy stance ‘withdrawal of accommodation’ is unlikely to change anytime soon with CPI inflation remaining above the 4% target,” he adds.
As the RBI is unlikely to cut repo rates in the near future, banks are not expected to drastically reduce the FD interest rates at this moment.
FD interest rate hike varies depending on bank and tenure
Keep in mind that banks do not revise the interest rates of all tenures of deposits uniformly. They determine the tenures based on their lending cycle.
Deposit tenures are generally meant to match the bank’s assets and liability in a particular period, say experts. For example, if the bank has a higher demand for two-year loans, it will offer a high-interest rate on 700-day deposits. So, the loan book of a bank plays a huge role in deciding the interest rate.
The transmission of rates differs from one bank to another. Some banks are still raising interest rates for deposits of a particular tenure. For instance, Punjab National Bank has in November increased the interest rate on FDs maturing between 180 days and 270 days from 5.50% to 6%. For FDs maturing between 271 days and less than one year, the rate was raised from 5.80% to 6.25%. Kotak Mahindra Bank hiked interest rate from 7% to 7.10% for FD tenures of two years and less than three years in October. For FDs maturing between 23 months and a day and less than two years, the bank hikes the interest rate from 7.20% to 7.25%.