Saving savings
RBI's welcome move to deregulate interest rates
The Reserve Bank of India (RBI) has been taking one step after another to protect the interest of the savings classes. Some weeks ago, it changed the formula for calculating the savings bank interest rate. Till March 31, 2010, the interest on savings bank accounts was paid on the minimum balance held between the 10th and 30th/31st of every month. With effect from April, 1, 2010, the effective rate of interest in savings bank accounts, under a new methodology, is calculated on a daily balance basis, instead of on the lowest available balance. Last week, RBI took yet another step by canvassing the idea that savings bank account interest rates be deregulated. The existing regime of a fixed rate for savings bank accounts, with the present rate being 3.5 per cent, has outlived its purpose. Indeed, the savings bank interest rate is the only rate in the banking system where an administered price still prevails. At a time when rates are likely to go north, there should be no concern that deregulation would drive down rates. Rather, there may be some concern in banks that competition will drive them up. The central bank should give flexibility to individual banks so that those that wish to adopt intermediate strategies of offering a minimum rate of interest up to a certain level of deposit and higher rates for larger deposits are allowed to do so. The existing system is based on discontinuity between current, savings and fixed deposits. This need not remain so. A current account can graduate into a savings account if account holders maintain some fixed minimum balance. That minimum deposit would earn a rate of interest that could rise as the fixed amount rises. Through such flexible methodologies banks can manage costs and make savings more or less attractive.
On the other hand, to deal with the problem of excessively low rates that might come to prevail when rates in general are on the decline, RBI can always specify a floor rate. This would protect small savers, senior citizens and other vulnerable sections from a precipitous fall in returns from a savings account. Indeed, as a transitional measure, deregulation can be accompanied by the specification of a minimum rate. India has a good story to tell on household savings and deregulation of rates can only further boost the overall savings rate. What deregulation will also do is to enable banks to come forward with new savings products meant for different segments of the household and micro enterprises savings market. Thus, rate deregulation can act as a spur to increased sophistication of personal banking.