A Rational Savings Bank Deposit Interest Rate in India

Abstract

Reserve Bank of India (RBI) through one of its discussion papers proposed to deregulate savings bank (SB) deposit interest rate to remove the skewed benefits that the bankers may be enjoying at the expense of the depositors. The SB interest rate, being decided by RBI, is one of the few administered interest rates in India. While trying to ensure that the SB deposit rate is not inappropriately anchored, we initiate our discussion under the premise that banks are for-profit companies and have the privilege of a banking licence for a social cause.

The country’s banking sector have about ` 13 lakh crore parked under SB deposits and about ` 4.5 lakh crore is held under current account deposits. The 1-year term deposit rates, on an average, hover at the repo rate. Thus considering an average repo rate of 7% and the prevailing time components of SB and current account deposits, the present system deprived the current account and savings account (CASA) depositors to the tune of ` 52,000 crore in a year in terms of interest payoffs. The prime reason why depositors’ money is not receiving more interest is the RBI’s choice to give this ` 52,000 crore to the banking sector to retain their profitability and to cross subsidise their expenditures. Since banking sector has the freedom to pass any excess cost of funds to their base rate (the minimum lending interest rate) RBI attempts a balancing act while arriving at the SB deposit rate. RBI’s move on deregulation of SB rates is an attempt to let individual banks decide how best they can let go some component of this ` 52,000 crore to the benefit of the SB depositors (based on their efficient use of cost effective technology to manage such SB deposit accounts).

Over time, with the advent of information and communications technology and with the core banking system in place, the banking system has evolved where the actual cost to manage 1-year term deposits vis-à-vis CASA deposits for one year, has a difference which is far less than ` 52,000 crore. Thus, given that the banking sector already has in place RBI mandated reasonable service charges, it appears unjustified to attribute an additional disproportionately high figure of ` 52,000 crore to manage the minimal free services of current and SB deposit accounts.

As an initial step towards deregulation, the option of no floor or ceiling could be considered gradually in order to protect the depositors. As on date there is no explicit method which RBI uses while fixing the SB rate. Therefore, under a deregulated scenario, we look into how the RBI or the banks could think of linking the SB deposit rate to the key policy rate. In the process of interest rate discovery, we suggest an approach to provide a basis for identifying the minimal SB deposit interest rate under a deregulated scenario. The floor rate arrived at by the proposed approach compares well to the historical SB rates fixed by RBI. Furthermore, the proposed approach is such that the SB floor rate will undergo a revision only after the repo rate undergoes a substantial change of 100 or 200 basis points.