Box B: Explaining household deposit growth in New Zealand
Household deposits are an important source of funding for the banking system, representing 40 percent of bank funding. As deposits are typically a stable source of funding, they are a significant component of banks’ core funding. Since mid-2015, annual growth in household deposits has slowed from around 11 percent to 7 percent (figure B1). This has contributed to an increase in New Zealand banks’ reliance on offshore funding, increasing their exposure to international risks that could adversely affect the cost or availability of funding.
Figure B1 Annual household deposit growth
Source: RBNZ BBS.
Some of the slowing in household deposit growth can be attributed to a rise in business deposits and wholesale deposit accounts, reflecting the natural flow of deposits through sectors of the economy as payments and transfers are made. This could be associated with the increase in household consumption growth in 2016, and there is also evidence that households shifted from investing savings in bank deposits to other investment products. This is likely to reflect households seeking greater investment returns in other assets, such as equities.
Has the recent weakness in household deposit growth been driven by demand or supply factors?
The Reserve Bank has used a model to identify how demand and supply shocks affect household deposit growth.1 In the model, a household deposit demand shock is assumed to be driven by banks’ relative cost of funding, for example, if a bank finds it more expensive to raise funds in offshore markets and therefore needs to attract more household deposits. By contrast, a household deposit supply shock originates from households, and is identified in the model as a change in household risk preferences. Other factors such as relative asset returns and volatility, income growth and consumption growth also influence demand and supply dynamics, and these factors are identified by the model as ‘other shocks’. The contributions of the supply and demand factors to six- monthly changes in household deposit growth over 2015 and 2016 are shown in figure B2.
Figure B2 Drivers of household deposit growth (de-meaned change in the six-month deposit growth rate)
Source: RBNZ estimates.Note: The shocks in the chart represent the contributions to the deviation from average household deposit growth over 2010-2016, averaged across the four largest banks. Positive values indicate deposits growing faster than average, and negative values indicate deposits growing more slowly than average.
The analysis suggests that in the second half of 2015, above average household deposit growth was largely attributable to a strong supply of deposits. However, household deposit growth fell below average during the first half of 2016, as both deposit supply and demand weakened. During this period, the gap between credit and deposit growth emerged and banks increased their reliance on offshore funding. In the second half of 2016, banks tried to close the funding gap by increasing deposit rates and households shifted towards holding more deposits. However, deposit growth remained below its trend level due to ‘other shocks’, for example, strong household consumption growth.
Can banks raise deposits by increasing deposit rates?
To estimate the cost of raising deposit funding, the Reserve Bank developed a separate model which assesses the sensitivity of deposit levels to deposit rates.2 This model estimates that a 100 basis point increase in the six-month term deposit rate increases the level of household deposits by 1-1.5 percent ($1.5-2.4 billion) after 4-6 quarters, after controlling for economic and financial conditions.
It also shows that the overall level of retail deposits (which includes household and business deposits) increases by less in dollar terms than household deposits in response to an increase in the deposit rate. This suggests that higher deposit rates could cause funds to transfer from business deposits to household deposit accounts.
Overall, the analysis suggests that household deposits are likely to be sensitive to interest rates, and banks may be able to attract some additional household deposits by increasing deposit rates. However, total retail deposits are relatively insensitive to deposit rates.
1 This analysis was conducted by the Reserve Bank based on the methodology in Chiu, C and J Hill (2015), ‘The rate elasticity of retail deposits in the United Kingdom: a macroeconomic investigation’, Bank of England Staff Working Paper No. 540.
2 A forthcoming Analytical Note will present a more detailed summary of the modelling. This analysis is
based on a vector autoregression model of household deposit growth, household credit growth, the six month
term deposit interest rate, gross domestic product growth, net working age migration, the trade
balance, and the Merrill Lynch Option Volatility Estimate (MOVE) index.