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[oped of the day] Small savings rates need to be managed for better rate cut transmission


From UPSC perspective, the following things are important :

Prelims level : Nothing much

Mains level : Monetary Policy Transmission


The slow growth of the economy requires interest rates to be eased so that money is available relatively easily and pumps up the pace of growth.

RBI’s monetary policy – Banks’ response

  • RBI has reduced interest rates, the overnight repo rate by 1.35% since February this year. 
  • However, the banks are not passing on the lower interest rate signals to lending rates.
  • In the latest policy review, RBI observed that over the period from February to September 2019, against the reduction of 110 basis points of signal repo rate, weighted average deposit rate eased by 4 bps only.
  • Weighted average lending rate on fresh rupee loans eased by 29 bps only and weighted average lending rate on outstanding rupee loans actually went up by 7 bps.

Why banks don’t pass on interest rates

  • In the past
    • A gauge called system liquidity measures how much on a daily basis banks are surplus or deficient in liquidity. 
    • It showed that banks are in deficit.
    • That was rectified through an RBI action called open market operations. RBI purchased a significant amount of government securities from banks and imparted liquidity. 
  • Slow rate of credit offtake – The pace of credit off-take from the banking system is growing at a pace slower than earlier. 
    • Credit-deposit ratio measures how much of incremental deposits in the banking system is leading to incremental loans.
    • The pace of credit off-take has slowed than earlier due to less of investments being done in the economy. 
    • The CD ratio is lower now. A lower CD ratio is the reason for banks to lower interest rates. 
  • Cost of funds – As per RBI diktat, from 1 October, floating rate loans from banks are based on an external benchmark not in the control of the bank. 
    • Fixed rate loans form the bulk of loans disbursed by banks and are benchmarked to the bank’s cost of funds. 
    • This is measured through MCLR. When MCLR comes down, banks would reduce interest rates on fixed rate loans.
  • Small savings – 
    • Banks face challenge from small savings schemes for mobilization of deposits, particularly in rural areas. 
    • Interest rates on small savings schemes are on the higher side given the context of benign inflation and the RBI having reduced the signal repo rate by 1.35%. 
    • Higher interest rates are good for depositors. Rates on small savings are market-linked, with government security yield movement of corresponding maturity.
    • Rates are reviewed every quarter. However, the rates given are much higher than what it is supposed to be as per the formula.

Small savings : Discrepancy between announced and formula based rates

  • RBI disclosed the formula-based interest rate and government-announced rates.
  • For the quarter October to December 2019, for Kisan Vikas Patra, the rate as per formula is 6.81% and the rate announced by the government is 7.60%, higher by 79 bps. 
  • For National Savings Certificate VIII Issue, the formula rate is 6.91% and the rate given is 7.90, higher by 99 bps. 
  • For Senior Citizens Saving Scheme, it is higher by 110 bps. 
  • For the spectrum of Post Office schemes, the differential over the G-Sec yield based formula is 70-110 bps. 
  • In the Union Budget, small savings has increased in importance. In 2012-13, it was 1.5% of total capital receipts. In the Budget of 2019-20, it is 16.8% of total capital receipts.


  • The spread of small savings stands in contrast, for the RBI measure to be transmitted to the broad system,. 
  • But, reduction of small savings rates is a sensitive issue. It will impact the masses adversely.
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