If the proportion of current account deposits your bank defines as remaining generally static over the long term has not changed this year, then a review of how these are managed for interest rate risk, funding, liquidity and funds transfer pricing purposes is overdue.
Current accounts are a peculiarity; in theory, customers can withdraw their entire balance tomorrow. In practice, they don’t. This allows banks to take transformation risk on this type of deposit i.e. make an estimate on which proportion is volatile and which isn’t and invest the non-volatile portion in fixed rate assets which have a maturity longer (generally a lot longer) than one day. Internally, these deposits often get awarded an higher value than volatile deposits via funds transfer pricing. Long term funding ratios also attempt to define current account deposits that will remain on the balance sheet for longer and liquidity ratios stipulate which deposits can be relied upon not to leave the bank in a crisis.
For all of these purposes, many institutions look at historical deposit balances. Any statistician will warn you though; the past is not always a good indicator of the future and there are two very good reasons for that to be especially true right now:
- The effects of the pandemic; meant a glut of deposits ended up on bank balance sheets. That might well unwind, or at least lead to shifts amongst retail and corporate banks, as the cautious cash-hoarding seen with corporates when the pandemic was an unknown has dissipated and individuals begin spending again.
- Recent sharp interest rate rises; have broken the pattern of a decade of low and steady rates in most jurisdictions. Bank clients are now incentivized to move money out of low interest accounts, like current accounts, into something that offers higher yield. Some banks, able to re-margin assets quicker than deposits will benefit from this, others who have to replace cheap current account balances with more expensive funding and cant offset it, will suffer.
Current accounts tend to offer attractive transactional features, where salaries and bills can be paid in and out, so on average there is likely to be some sort of minimum balance remaining in these accounts. However, lazy cash hoarding will now prove too expensive an activity. In this environment, banks should not be relying on the last decade to inform them what is going to happen (or in many cases is already happening) on their balance sheets; instead, we advise historical data is used to closely compare with that of recent months, to identify a switch in behavior.
>>If hedging strategies and transfer pricing policies are linked to an estimate of non-volatile (sometimes known as ‘core’) current account balances, then the way these are defined should be reviewed and adjusted more regularly at the current time.
>>Current account balances included in long term funding ratios and liquidity ratios (sometimes known as ‘stable’ or ‘sticky’ or ‘available stable funding’) should also be reviewed. If a balance switches away to seek higher returns, then it suggests it also can’t be relied on as a long-term source of funding, nor regarded as likely to remain should a liquidity crisis hit; limiting the definition of such balances to, for example, the transactional nature of the account, does not go far enough.
Banks globally are already seeing customers switch out of low interest accounts and competition is likely to become fierce as some fight to retain funding. Analysis of deposit accounts should in theory remain valid throughout an interest rate cycle; following a decade without one, now is the time to pay close attention.
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