New savings rate: A bonanza for small depositors

The Reserve Bank of India (RBI) has at last rung down the curtain on administered lending rates by freeing the interest rate on savings bank accounts.

The interest rate was pegged at four per cent in May after remaining unchanged for eight years.

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Banks will now be free to pay whatever they like as long as they offer a uniform interest rate on savings bank deposits of up to Rs 1 lakh, beyond which differential rates can be offered depending on the size of deposits.

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Being able to get away with paying less was a crutch that was offered to the state-owned banks in order to give them time to get ready to face competition implicit in a level playing field.

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Twenty years, since the reforms began, is a long time in which to grow up.

The move will be an invaluable gain for ordinary depositors, who have been getting the short end of the stick by earning a pittance for their money at a time when inflation has been running close to 10 per cent.

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Banks have a point when they say that these accounts are mostly run like current accounts to meet day-to-day obligations and so do not deserve to earn any interest.

If interest rates are free to ride the market, then bank charges should also be levied on the number and size of transactions.

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But with core banking in place, banks' cash management capabilities have undergone a considerable change and banks deserve to be compensated only for any fluctuation that their aggregate current account savings account (Casa) deposits face from large numbers of small transactions that cannot be attributed to any extraneous factors.

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Banks are, in fact, benefiting from the increasing use of electronic cash transfers.

People keep less cash at home (maintain higher bank balances) because they can make just-in-time electronic withdrawals and payments, thereby posing no additional costs for banks since the days of manual ledger posting are gone.

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Freeing savings bank interest rates has several systemic benefits. One, greater competition will force nationalised banks with large Casa funds to offer better service.

Two, for the central bank, transmission of monetary policy signalled through policy rate changes will improve.

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Three, the overall efficiency of the banking and financial system will also improve.

This will enable India to further differentiate itself from China, which has a more regulated and inefficient financial system.

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Under it ordinary depositors are fobbed off with low interest rates and large state-owned units are able to borrow and invest cheap.

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Ordinary Chinese are chafing at the inequity of low interest rates on their large savings which are unable to fetch them what matters the most: housing, which a property bubble has made unaffordable.

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But the regulator should also look at complaints from nationalised banks that they are operating on an uneven playing field since the onus is on them to promote rural banking even as the smaller, private banks with fewer diseconomies of scale cream off the better business.

The cost of delivering financial inclusion should be carefully calculated and those undertaking the task should be suitably compensated.