BY PETER THAL LARSEN

Banks will find deposits a growing liability in 2021. Turning short-term savings into long-term loans has been the bedrock of banking for centuries. Yet the pandemic threatens to strain that business model to its breaking point.

The industry was already under pressure before Covid-19. Low interest rates squeeze the margin banks earn from lending out deposits. The coronavirus crisis saw rates fall further, while customers rushed to stash spare money in the bank. U.S. deposits swelled to $15.7 trillion by the end of September, 21% higher than a year earlier, according to the Federal Deposit Insurance Corporation. Customers of British banks had 12% more on deposit at the end of October than at the start of 2020.

The pressure on lending margins will only grow as borrowers refinance loans at cheaper rates. McKinsey reckons bank revenue will be 14% lower than its pre-crisis trajectory by 2024, wiping out $3.7 trillion in cumulative top-line income. Though lenders can respond by cutting more costs, they will also have to take further-reaching steps. HSBC Chief Executive Noel Quinn, who oversaw customer deposits worth almost $1.6 trillion at the end of September, plans to beef up fee-based businesses, and may charge customers in some markets for holding their money. Rivals would probably like to do the same.

The crunch is also upending bank regulation. Authorities have long focused on deposit-taking institutions. Banks accepted cumbersome capital and liquidity requirements as a worthwhile tradeoff for privileged access to cheap, stable funds. The 2008 crisis reinforced the view that deposits are preferable to flighty funding from wholesale markets.

But upstart financial groups have bypassed deposits while eating into banks’ revenue. Companies like Global Payments, Adyen and Stripe have built businesses valued at more than $50 billion each by processing electronic transactions. China’s Ant lets its 700 million users make payments, borrow money, and buy investment products from their smartphone without accepting conventional bank deposits. Indeed, as deposit accounts that offer interest disappear, customers will be even more inclined to leave their cash with online firms that pay them nothing.

Banks can’t easily change their business models to focus on fees, though. Lenders on average earn between 50% and 75% of revenue from interest income, McKinsey reckons. The old privilege of safeguarding customer money increasingly seems like a burden.

First published December 2020