Have money in the bank? Here’s what you can learn from the PMC Bank disaster

The Punjab and Maharashtra Cooperative Bank, which boasts deposits of over Rs 11,500 crore, is in trouble. Amid tough economic conditions and a series of bad loans, defaults seem to have increased in the last six months, making it difficult for the bank to keep up with its commitments.

In response, the Reserve Bank of India limited deposit withdrawals from the bank to Rs 1,000 per account — the limit was enhanced to Rs 10,000 on Thursday — and restricted it from doing business for six months. 

With the festival season around the corner, the depositors are up in arms. In most videos doing the rounds on social media, they are all asking the same question, “It’s my money, so why am I not allowed access to it?” Some depositors have weddings to pay for, others need the money to meet regular expenses. 

Here is a problem the depositors had no role in creating but are nonetheless facing the repercussions of. 

Given the large number of operational cooperative banks that it needs to keep tabs on, it is hardly surprising that the central bank has been caught napping once again. Unfortunately, this has resulted in a large number of depositors finding themselves in a financial mess, for no fault of theirs. 

Tragic as it is, this crisis is an opportunity for us to learn a few basic lessons in personal finance all over again:
1) The oldest cliché in personal finance is diversification, or as financial planners like to put it: “Don’t put all your eggs in one basket.” This applies within and across asset classes. It is, therefore, important to divide the money you want to save in the form of deposits among accounts of different banks. In case one bank falls in trouble, you would still have access to the money in other banks.

2) The moment people put their money in a bank, they assume it is safe, forgetting that, at the end of the day, banking is just another business. And businesses fail all the time. A bank borrows money at a certain rate of interest and lends it at a higher rate. If the money the bank lends is not repaid, then it may not be able to repay a part of the deposits. 

However, it is rare for a bank to default on its deposits. That is simply because when a bank reaches that stage, the RBI typically merges it with another bank. In the past, the New Bank of India was merged with the Punjab National Bank while the Global Trust Bank was merged with the Oriental Bank of Commerce. The assumption that the central bank is going to intervene in such situations creates an illusion of safety around banks.

In case of public sector banks, the government keeps pouring money into them to ensure they are able to repay the deposits that mature regularly. In the last financial year alone, the government invested Rs 2,06,000 crore in public sector banks to keep them going. This money saves public sector banks from defaulting on their deposits even though as businesses they are in a mess.

Yet, most people are unaware of these aspects of banking. They deposit their money in a public sector bank without bothering about the safety aspects since they assume the government will come to their rescue in case things go south. 

3) Several public sector banks have a bad loan rate of over 10%. This means that of every Rs 100 loaned by them, more than Rs 10 has not been repaid for 90 days or more. Some even have a bad loan rate of 20% and above. But people continue to willingly bank with them.

So, what is it these banks offer that keeps you hooked to them? Maybe an extra 0.5% interest compared to another bank? Maybe the clerks are polite to you? Maybe you have a locker there? Maybe the branch manager is a nice chap? But is all of this really worth the risk?

When a better public sector bank is available to deposit your money, why go for a less healthy option? To me, laziness is the only plausible answer. This is not to say the government will not rescue these banks if they falter. It will. But what if the RBI, while sorting out the mess, restricts access to deposits for a certain period as it has done in the case of the PMC Bank. While the safety of one’s deposits is paramount, access to your deposits is equally important. At the end of the day, what good is any money if it cannot be spent when required.

4) The attitude that just because your money is in a bank it is safe really needs to be dispensed with. There is always a certain amount of risk attached to money that is invested. A prudent way of dealing with this is to stay away from banks which have high bad loan rates. Anything over 10 per cent is a no-no. To check a bank’s bad loan rate, you can go to its website and search for the investor presentation published every three months. You can also just google this information. Keeping tabs on the bank where your money is deposited is of utmost importance.

5) There is a lack of transparency around what most cooperative banks do with the money they take from depositors. Many of these banks are run by politicians and their cronies. This is not to say all cooperative banks are bad. But it is certainly difficult to figure out which one is good. Also, given their huge number and political connections, the ability of the RBI to regulate cooperative banks is rather limited. In such a situation, it makes sense to stay away from these banks, even if they offer higher interest rates on deposits.

 These days, it seems people spend more time planning holidays and researching which phone to buy than thinking about the right places to invest their hard-earned money. It is this attitude that costs them. Remember, if you don’t care about your money, no one else will.