Banks not in a position to reduce deposit rates: RBI

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New Delhi: Highlighting some critical defects in the interest rate transmission mechanism, the Reserve Bank of India has said Indian banks could not reduce deposit rates ‘sharply’ due to the presence of high administered rates on small savings, higher fixed deposits rates, elevated government borrowings and linkage of concessional lending rates to the banks’ prime lending rates, among others factors.

Inflexibility in lowering deposit rates meant banks could not pare their lending rates fast enough. Despite a 350 basis point cut in RBI’s short-term lending rate in the last one quarter, public sector banks cut their BPLR by a maximum of 150 basis points and private banks by a maximum of 50 bps, whereas, the foreign banks left their BPLRs unchanged. This indicates lending rates did not decline as much as they were expected to, although analysts note this bound to happen in the current uncertain times.

As the accompanying chart shows, most banks’ rates on deposits of more than one year maturity stand at over 8%, even though RBI’s lending rate to banks have come down to 5.5%. Competition from small savings schemes, such as National Savings Certificates, Kisan Vikas Patra, Monthly Income Scheme, which give a rate of over 8%, meant that commercial banks had to give a rate of at least 8%.

While it would be difficult to tinker around with interest rates on small savings in this election year, RBI is also constrained to the cut the savings rate below 3.5% as it requires a legislative change. Parliament is unlikely to take risk of losing electorate by lowering the floor on savings rate. The political economy of this fixing of interest rates on small deposits would further complicate the monetary policy transmission. In its third quarter monetary policy review released on Tuesday, the RBI said the interest rate response to monetary policy easing has been faster in the money and bond markets as compared to the credit market because of several structural factors.