Sticky small savings interest rates protect against financial instability

Inflation returns in conversations about Indian politics. In this context, two recent observations in RBI publications are relevant. The central bank pointed out that the growth of small savings deposits has consistently exceeded bank deposits since 2018. In addition, the GoI has left interest rates on small savings instruments (SSIs) unchanged for six consecutive quarters. , i.e. 18 months. Changes in interest rates on SSIs are made by the GoI. The magnitude of the change, however, is determined by a formula based on the performance of a relevant government security.

The inertia of GoI didn’t really make a difference. Since February 2019, the RBI has used all its instruments to lower interest rates by prioritizing the revival of economic growth. Between February 2019 and September 2021, the RBI policy rate, or repo, fell 2.5 percentage points. Median bank term deposit rates for new collections fell 2.13 percentage points over the same period. In fact, deposit rates have fallen more than credit rates. This period also coincided with a rise in retail price inflation, which has long been higher than the RBI repo rate. There is a simple explanation for this anomaly.

Interest rates, especially for short-term loans and deposits, are influenced more by RBI actions than by market forces. RBI has a variety of tools to influence the performance of government securities, which serve as a benchmark for others. Monetary policy since February 2019 has lowered all rates. Except those set by GoI. The actions of the GoI are influenced, among other things, by electoral dynamics. This dimension amortizes small savers during phases when deposit rates are out of sync for long periods with the level of inflation. It is a system of checks and balances and not a fault line in the financial system. It probably prevents financial instability resulting from a mismatch between deposit rates and inflation.


This article was published as an editorial opinion in the print edition of The Times of India.


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