Why did State Bank of India cut interest rate on savings account deposits?

The country’s largest lender State Bank of India on Monday cut its interest rate on savings bank accounts by 50 basis points to 3.5 percent on deposits of up to Rs 1 crore, 6 years after the Reserve Bank of India deregulated interest rate on savings bank deposits.

The move was met with much hue and cry, with depositors taking to social media platforms to voice their displeasure. However, market participants said that the move was a calculated and a necessary one.

So why did the bank cut its interest rate on savings account deposits?

Firstly, SBI garnered deposits totalling over Rs 1.5 lakh crore in the two months following demonetisation. With a shortage of currency notes in the system, people preferred to deposit a sizeable chunk of their money in bank accounts.

The result was an increased interest burden for the bank, which was facing a triple whammy in the form of higher interest outgo on the augmented deposit base, lower interest income due to a cut in MCLR and non-payment of interest by delinquent borrowers.

However, when the amount of currency in the system normalised and people began withdrawing their deposits, SBI saw 60 percent of its total demonetisation-related deposits flow out. This increased the bank’s marginal cost of funds.

The bank was now faced with 2 clear choices — raise MCLR or cut deposit rates. It chose the latter, not in the least because an increase in MCLR would further dent the already subdued loan growth.

The bank will now be hoping that the remaining 40 percent of demonetisation-related deposits stays with it. It will also hope that given savings bank accounts are used more to transact than to actually save, this move of reducing interest rates on savings accounts will not result in an exodus of customers.

Market participants believe that SBI’s move is likely to trigger an interest rate war between its large public-sector and private-sector peers. However, smaller banks are likely to keep their rates unchanged in an effort to garner more market share.