Interrelationship of deposits and borrowings with capital adequacy ratio empirical analysis of Indian banks

Abstract

Banks garner deposits from public and the funds so raised are employed in lending and other operations to generate profits for the entity. As deposits constitute major share of bank funds and are raised from public at large, it is imperative that banks maintain adequate capital funds with capital adequacy ratio (CAR) to ensure security of deposits and confidence of population in banking structure. In addition to deposits, banks also employ borrowings to generate business funds. Capital in banks symbolizes the soundness and resilience of banks being a cushion against potential losses. When asset quality deteriorates due to environmental or business factors, capital comes to rescue to absorb losses. This saves the liability components of deposits and borrowing provided capital has enough absorption capacity measured in relation to riskiness of assets. This capacity is measured by Capital to Risk Weighted Assets ratio, a proportion of capital funds to risk adjusted assets. The objective of study is to examine the association which exists between CAR and how it is impacted by other two elements neighbouring it in the liability side of bank balance sheet viz. share of deposit in total liabilities and share of borrowing in total liabilities. Forty Indian banks have been included in study, twenty each from category of Government owned public banks and banks in the private sector. The study has shown that the percentage share of deposit has negative relationship with CAR and so depositors have to be wary of the availability of requisite capital in banks’ books to guarantee their safety. The share of borrowing has, however, opposite effect. The results are of significance for bank management.