Inter-city Deposit Risks: A Rational Assessment

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February 25, 2025

The landscape of banking in China is undergoing a significant transformation as smaller banks have begun to lower their deposit ratesIn some instances, five-year fixed deposit rates have plunged to below 2%, highlighting a stark contrast with certain village and town banks and urban commercial banks in specific provinces where rates still reach as high as 4%. This substantial difference from the 1.8% deposit rates offered by major state-owned banks has compelled numerous savers to travel across cities to secure more favorable terms for their deposits.

This phenomenon primarily stems from the noticeable disparities in deposit rates between regions and banksAs noted by Dong Ximiao, the chief researcher at Zhaolian, various factors contribute to these inconsistenciesFirstly, the self-regulatory mechanisms for market interest rates differ across regions, impacting the allowed upward variations and caps on deposit ratesSecondly, the relationship between supply and demand for deposits varies by locality, influenced by regional investment preferences and saving habits, which ultimately affect how deposit rates are pricedLastly, the same bank may exhibit differing asset-liability situations and competitive strategies at its various branches, resulting in inconsistencies in deposit demand and pricing.

Given the widespread availability and efficiency of mobile banking apps, one might question why savers feel the need to engage in cross-city depositsIt is important to note that commercial banks are increasingly limiting internet-based deposit services to their own platforms, while local banks are required to cater such services to the client base located in the areas where their branches operateHowever, the allure of higher interest rates still prompts consumers towards physically visiting banks, as they search for the best returns on their savings.

Despite the safety and compliance of cross-city deposits, Dong Ximiao cautions potential savers to carefully consider two key factors

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First, traveling across cities not only incurs time costs but also various travel and accommodation expenses; thus, it is vital for depositors to evaluate whether these costs balance out with the benefits of higher interest ratesSecond, transactions should ideally be handled at bank branches rather than through dubious activities that may lead to legal complications.

Compounding the situation are certain practices such as the intervention of "deposit-hunters" who have emerged to exploit the compliance risks associated with cross-city depositsOpening an account in a different area can pose challenges when individuals require immediate access to their funds; lacking a local branch may hinder their ability to withdraw cash when needed, subsequently creating liquidity risks.

From the perspective of smaller banks, deposit rate discrepancies between large and small institutions have persisted as a challenge owing to the significant pressure smaller banks face to attract depositsTypically, smaller banks need to offer higher deposit rates than their larger counterparts to draw in more clientsReports indicate that many smaller banks are now actively adjusting their deposit rates downward as they receive increased inquiries from out-of-town depositorsLi Yifan, a researcher from the Bank of China, emphasizes that individuals should stay attuned to macroeconomic trends and fluctuations in financial marketsIt is essential for savers to enhance their financial planning consciousness and risk awareness, to go beyond mere deposit strategies and diversify their investment choices based on their specific needs and risk toleranceThis diversification is vital to optimize their financial asset allocation structure while striking a balance between risk and reward.

In the current complex and ever-changing financial landscape, the trajectory of interest rates has emerged as a pivotal factor influencing the development of banking operations

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Today, deposit and loan rates are firmly entering a downward trend, representing a substantial headwind for commercial banks, which are grappling with myriad challenges, chief among them the pressure of shrinking net interest margins.

Net interest margin serves as a crucial metric for evaluating the profitability of commercial banks, representing the difference between interest income and interest expensesWhen both deposit and loan interest rates fall, banks face increasing difficulties in synchronizing the reduction in deposit rates with their loan rates due to fierce market competitionWhile the cost of attracting deposits may decrease, the associated decrease in loan earnings can be more pronounced, resulting in a continual narrowing of the net interest margin.

In light of these severe conditions, one would expect commercial banks to collaborate and explore robust operational strategies to address the impacts of declining interest ratesNonetheless, many have instead fallen into a shortsighted competitive model, fixating on gaining additional market share and customer resourcesThis fierce battle has led to a proliferation of irregular deposit-seeking practices that persist despite regulatory efforts to curtail them.

Li Yifan, a veteran observer in finance, has expressed concern regarding this disturbing trendHe points out that in the context of this competition for deposits, some smaller banks, faced with their relatively limited strength, are resorting to aggressive and often non-compliant tactics to achieve short-term deposit goals.

Instances of excessive high-interest deposit solicitation abound in this precarious environment

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Within the contours of normal market interest rates, deposit rates should align with the overall supply-demand relationship in the market alongside the bank's capability to manage risksHowever, some of these non-compliant entities blatantly ignore market norms, opting to drastically raise their deposit rates beyond reasonable levels to draw in depositorsThis approach not only disrupts the equilibrium of the financial market, making the overall rate pricing mechanisms chaotic, but also significantly escalates the operating costs for the banks in question.

In addition to high-interest solicitation, irrational competitive behaviors are frequently observedCertain smaller banks may attract deposits by offering extravagant gifts or unreasonable additional servicesFor instance, they might pledge luxurious vacation packages for clients making substantial deposits or even bundle unwanted financial products and services with deposit transactionsSuch actions inflate the operational costs and may infringe on customers' rights while potentially giving rise to further financial risks.

These irregular deposit activities undoubtedly impose significant cost pressures on smaller banksElevated deposit costs exacerbate the already narrowing net interest margin, further attacking their profitabilityOver time, this situation not only impacts the stable development of individual banks but could threaten the broader financial system's stabilityIf banks find themselves struggling under unsustainable cost pressures, there is a risk to depositors' funds, triggering a cascade of reactions and undermining the smooth functioning of the financial market.

According to Dong Ximiao, banks must abandon notions of scale and speed mania; instead, they should aim to maintain stable growth in their deposit businesses while ensuring that liability costs are kept within reasonable limits

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