HDFC Bank has built an enviable franchise with the cleanest book and the best spreads in the business. Steered by Aditya Puri, managing director, the bank has grown at a steady 30% over the years. In a conversation with Shobhana Subramanian and Saikat Das, Puri observes that while interest rates may be headed higher, much would depend on how inflation is controlled. Puri also points out that companies seem to be talking about capital expenditure though it doesn?t seem to be reflecting in higher drawdowns just yet.

How do you see the base rate taking shape?

The base rate is not going to change the fundamentals of banking. The banks have been taking into account the tenure of the loan, the risk profile of clients and the liquidity available while lending. The RBI is saying, it wants greater transparency than what the BPLR provided possibly because a lot of lending has been done to the AAA corporate at below the BPLR. Now, this is a function of excess liquidity in the market and also competition so what happens is that the person borrowing a higher amount for a shorter tenure will get a cheaper rate. The base rate has been defined as the bank?s base cost but that?s not the base cost of total deposits or of a deposit of any tenure. So a bank is free to take the base cost of a 90-day deposit.

Will there be a big difference between the base rates of banks?

Normally, loans are priced either over marginal cost or over average cost, it?s possible banks

Both are safe but for a new loan, banks use the marginal rate so banks may opt for the marginal cost. I don?t think there will be too much of a difference when the new system sets in, because the basic business hasn?t changed. So it?s possible SBI may set it at 8%, PNB may set it at 7%, the rate will move towards the lower side rather than the higher side. I don?t see interest rates moving up systemically, there might have been a systemic shift had RBI said that banks would have to use the average cost of deposits to calculate the deposit cost. As for the marginal cost, banks may use the 90 day term deposit or the 180-day term deposit rate.

Will lending to SMEs become more transparent?

There was a presumption that SMEs are paying higher rates. But I don?t think that?s the case, maybe in some cases. But the rate would have been a function of the risk profile as much as being an SME.

Where do you see interest rates headed in the next few months?

Will the 10-year yield go up? I would say yes. Whether interest rates go up, depends on sentiment and how much they are able to control inflation. If food inflation is controlled in a couple of months, the sentiment could be different. The government has clearly announced lower borrowing programme and so one expect a yield of between 8-8.5% if they meet their commitment and depending on inflation higher than that towards the end of the year. Quite a bit of the inflation is priced in the 8% and the general expectation is that 8 will go to 8.5% by June ?July maybe, Unless something untoward happens, yields should not go up beyond this and if something beneficial happens, further interest rates may not go up. In fact, short and medium term rates, even up to one or two years, may not up since liquidity is still excess of Rs 70,000 crore in reverse repo, despite the hike in the cash reserve ratio. Some amount is there with the mutual funds also.

Why have banks been raising deposit rates?

We haven?t raised rates across tenures but for some shorter and some longer tenure deposits, reflecting the increase in rates in the system at the long end. Even if we raise rates now, the actual momentum comes in only after about 3 months with a lag and so by then we would have raised rates by between 0.25 and 0.5% which is the kind of increase we are expecting in overall yields, not particularly short-term yields.

So this kind of increase should not hurt demand for loans?

No we don?t think so. The rates that you are seeing today for autos or homes are a function of a slowing economy and excess liquidity. Car loan were at 9-9.5% so if they move up back there it?s not the end of the world. It?s hard to see a year ahead in today?s environment but we don?t see any big move in interest rates. We need to see what happens on liquidity, inflation, private demand and what happens on GDP. We are seeing some pick-up in corporate borrowing but not a runaway pick up. It?s for working capital, drawdowns on investment have not happened. Companies say they are moving ahead on capex but we have to see greater evidence of it. Retail demand for the system as a whole hasn?t been great but we are experiencing good demand. If production of cars increases by 30%, demand for car loans will also increase. Actually, the demand for home loans never faltered. If GDP grows by 8%, credit demand can grow by about 20% next year. HDFC Bank normally grows faster than the system.

What do feel about the government wanting to give out more banking licenses?

Firstly, RBI has just made the announcement so it will take the new players at least a year or so after they get the licences to start their banks and another year to settle down. Honestly, it?s hard to look that far ahead. But at macro level demand exceeds supply for financial services so the more the merrier.

HDFC Bank has just digested one merger. What is the bank?s immediate term strategy for growth ?

At this point of time, we are not looking for any merger, we have just doubled our capacity and right now don?t need to look further. We just doubled our distribution network from 725 to 1,720 branches. Our business model is different, it?s based on branches and that?s why we are comfortable with retail loans and our cost of funds. Not only is our CASA high, around 60% of our personal loans are sold through branches, 70% of our cards are sold to our customers through branches, we give our own customers a beneficial rate.

HDFC Bank has an enviable CASA ratio of 52%, is this sustainable?

No, it?s not sustainable. The reason we have 52% CASA is because deposits have been growing slowly so there?s the deominator effect and once growth picks up we will need to borrow more fixed deposits. I would say our normal range for CASA is between 45 to 48%. Our asset growth is a function of GDP growth so if GDP grows at 8%, the market will grow at 22-23% and we?ll grow by 2-3 % more than that.

Is the bank looking for an international presence?

Why should we have an international presence? Corporates can get money from foreign banks there. We have a branch in Bahrain and we are shortly opening another one in Hong Kong.