Deposit insurance in India protects up to Rs 1 lakh of a depositor’s money — an incredibly low figure by whichever way you seek to measure it. This level was fixed over a quarter century ago in 1993.
Every time a bank is in trouble and comes under Reserve Bank of India (RBI) restrictions and distressed very ordinary looking people rush to the bank’s offices to withdraw their meagre savings, public attention shifts to the extent of deposit insurance available, i.e. how much of a depositor’s money will not be lost if the bank goes into liquidation.
This process has been repeated most recently with RBI stepping into the act as the Punjab and Maharashtra Cooperative (PMC) Bank has got into trouble. In the process the country’s rulers have been put in the sorriest possible light. The discussion that has followed on how to change the system has highlighted the cardinal point that financial regulation must keep evolving to protect the financial system while being mindful of the socio-economic realities prevailing in India.
Deposit insurance in India protects up to Rs 1 lakh of a depositor’s money — an incredibly low figure by whichever way you seek to measure it. This level was fixed over a quarter century ago in 1993 when the Narasimha Rao government was in power and Manmohan Singh was finance minister.
The base year for the consumer price index between then and now has been changed three times. Earlier there used to be separate indices for industrial and agricultural workers and since 2011-’12 to now there is a composite index for rural and urban. So the values of the index then and now are not comparable.
Still, if you are looking for a sense of how much inflation has eaten into the value of the rupee, in the intervening period during which two governments each of the UPA and NDA have been in power, prices have gone up by around six times. So if deposit insurance should at least stand where it was in real terms (that is not fall behind) then it should today cover Rs 6 lakh of a depositor’s money in the bank.
Another argument for enhancing the amount covered by deposit insurance is the change in the profile of the Indian depositor in the intervening years. According to figures provided by the research outfit of SBI, over the years the level of insured deposits as a percentage of accessible deposits has declined from 75 per cent in financial 1982 to a mere 28 per cent in 2018. “Given this backdrop,” says the SBI note, “we believe there is a dire need to revisit the insurance coverage of bank deposits.”
Why have things been allowed to remain where they are? The best guess is that on this issue successive governments went to sleep like Rip Van Winkle. This is when the whole modern banking system rests on trust. Depositors keep their money in the bank knowing that it is safe and the bank lends out the money knowing that depositors will not one fine morning come all together to take their money out.
When that happens there is a run on the bank in trouble and this is what RBI sought to pre-empt last month when it first put a ceiling of Rs 1,000 and eventually raised it to Rs 25,000 on what could be withdrawn by customers of PMC Bank.
Realising the damage that has been done through this process to public morale and the stability of the financial system, the RBI governor has publicly assured that the Indian financial system is safe and not to worry. The mere fact that he has had to do this is a commentary on the state of affairs.
It can be argued that there is moral hazard in raising the level of deposit insurance. Bankers and the government will be wayward and the regulator slow footed if all know that at the end of the day the public’s money will be safe, thanks to deposit insurance, and so public ire over mismanagement and political interference will be deflected.
However, the counter argument is that at the end of the day there has to be trust for modern banking to function and deposit insurance creates that invaluable trust in the system — the humblest depositor knowing that her money will be safe, come what may.
In making up our minds it will be useful to take a look at global practices. In Brazil, another BRIC country, deposit insurance is 7.4 times per capita income measured in US dollars but in India it is at a woeful 0.9 per cent.
Another suggestion made by the SBI note is that the Financial Resolution and Deposit Insurance Bill, which was introduced in Parliament in 2017 but withdrawn in 2018 due to the protests across the country over the bail-in clause, should be reintroduced without the clause. (It effectively sought to make depositors with deposits above a certain amount become equity holders who would benefit if the entity turned around or take a hit it if it did not.) The logic of not having a bail-in clause is that the average income of a vast majority of Indian depositors is modest.
A further point made by the SBI note is that in India, where there is hardly any social security, many in their post-superannuation life rely on the interest income from their bank fixed deposits to keep themselves going. So there is a need to have a dual system of deposit insurance — one for savings bank deposits and a higher one for fixed deposits. The figures for these should keep changing to account for inflation and rising incomes.Subir Roy is a senior journalist and author. Views are personal.Get access to India's fastest growing financial subscriptions service Moneycontrol Pro for as little as Rs 599 for first year. Use the code "GETPRO". Moneycontrol Pro offers you all the information you need for wealth creation including actionable investment ideas, independent research and insights & analysis For more information, check out the Moneycontrol website or mobile app.