The Reserve Bank of India's directive to scheduled commercial banks to pay interest on the daily balances in savings bank accounts is significant for banks as well as their depositors. The new method, which came into effect on April 1, 2010, has replaced the age-old practice of banks computing interest on the minimum balance in individual savings bank accounts between the 10th and the last working day of a month. The savings bank deposit rate, which is set at 3.5 per cent, is one of the few administered interest rates remaining in the Indian financial sector. Unlike in the case of fixed deposits where banks have the freedom to vary the rates depending on the tenure or the deposit amount, the savings deposit rate specified by the RBI has to be applied uniformly. The obligation to compute interest on the daily balances means the banks will bear a higher burden. Its magnitude will depend on various factors such as the mix of savings bank accounts. For instance, the burden will normally be much more for banks that have a higher proportion of accounts of salary earners. In the past, the ‘peak' balances after salary credits during the beginning of the month did not count. Typically, a salary earner would have drawn down his account balance by the 10th of the month. On the other hand, banks may not have to pay more on accounts whose balances do not change frequently during the month.
The average level of demand deposits, comprising current and savings account balances, has remained around 33 per cent of all deposits, with savings deposits alone accounting for 22 per cent. With the promise of interest on daily balances, account-holders might be less tempted to invest in fixed deposits unless the interest differential is high.Without computerisation, banks would have found it very difficult to switch over to the new system of calculating interest on daily balances in the savings deposit accounts. Further technology application will blur the distinction between the demand and time deposits. Already, many banks are offering hybrid accounts combining the liquidity of a savings account with the higher yield of fixed deposits. That is made possible by automatically transferring balances above a certain minimum level to a term deposit account. It would have been unthinkable for a bank to take on such tasks in the pre-computerisation era. Even as savings bank depositors gain by earning an effective interest rate that matches the promised rate, banks will seek ways of reducing transaction costs by leveraging technology.
