Given that European households have deposits worth an impressive EUR 8.5 trillion, deposits are one of the cornerstones of the EU economic system. This represents one-third of total financial assets. Despite negative real returns in most EU countries over the past few years, the flight to low-risk deposits continues.
Starting in 2009, the financial crisis and the introduction of liquidity targets under Basel III led banks to refocus on deposits, which usually provide more than 50% of their funding. These are the findings of a new study by Roland Berger Strategy Consultants entitled "Retail deposits – prepare for a bumpy ride".
In the pre-crisis period, deposits were considerably cheaper than interbank lending as a source of financing for banks. Today, largely due to the financial crisis, the opposite is true. Deposits have been generating negative returns since 2010 in many EU countries such as Belgium (-6%), UK (-4.5%), Germany (-2.1%), Italy (-1.5%) and France (-0.7%). "Banks are prepared to pay more for deposits because of their stability and favorable treatment under Basel III", says Roland Berger's Partner Bruno Colmant. "But we believe the pendulum has probably gone too far and banks have now been overpaying on deposits since 2012 in most European countries."
To finance sovereign debt and the real economy, EU governments are increasingly exercising direct control over deposits. Europe has experienced price controls, export controls and now control over the allocation of deposits. "This essentially amounts to nationalization of the deposit base: governments want to be able to decide where deposit capital is used," says Roland Berger principal Kasper Peters.
European banks have to adapt to this structural shift
To achieve success in the area of deposits and savings, banks need to strike the right balance between deposit stability, bank profitability and client retention. To do so, European banks must shift their focus from the asset to the liabilities side of the balance sheet.
By and large, banks possess advanced econometric techniques for managing their assets, but lack the same professionalization for the liabilities side of the balance sheet, specifically in the area of deposits." They often base their pricing and product decisions regarding deposits on the opinions of product managers, rather than solid mathematical models. That might have been acceptable before the crisis, but it is no longer a viable option. Liabilities are now the determining factor in retail banks' revenues, profits and growth potential," explains Colmant.
Clients' savings behavior and deposit elasticity – Two key parameters of the new deposit strategy
First, it is essential that banks improve their ability to profile their clients' savings behavior (based on actual observable client activity). "This enables banks to predict a customer's propensity to move to another bank, or accept an offer for an alternative savings or investment product," says Peters.
Second, modeling the elasticity of savings volumes is crucial. The model used should quantify the relationship between changes in the volume of deposits and various factors that could determine the inflow and outflow of savings products. Some of the most relevant factors are market interest rates, GDP growth and the gap between the bank's interest rate and that of its competitors.
Profiling client savings behavior and modeling the elasticity of savings volumes can help banks to:
Price their products on the basis of the elasticity of specific target segments and avoid overpayingOffer new loyalty schemes to their best clients, helping stabilize their deposit base and retain clientsProactively recommend "next-best products" through marketing, thereby controlling deposit flows and retaining the savings they have accumulatedOffer innovative products with new risk/return balances and thereby optimizing profitability from their fees business
