It’s Time the Govt Treated Deposit Holders with Some Respect

Take a look at the following chart. It shows the various kinds of savings that made up for household financial savings in 2013-2014 (the latest data that is available on this front).

Housing Financial savings in 2013-2014

Deposits constituted close to 63.3 per cent of the total household financial savings. Banks deposits formed around 56.7 per cent of the total household financial savings. Hence, bulk of the Indian savings are in the form of deposits in general and bank deposits in particular.

Shares and debentures formed around 1.5 per cent of the total household financial savings. Within that, investment in mutual funds constituted around 0.98 per cent of total household financial savings. Further, investment in shares and debentures of private corporate companies constituted around 0.46 per cent of total household financial savings.

What this tells us very clearly is that the Indian financial media spends a disproportionate amount of time and space, discussing stocks, debentures and mutual funds. A very small segment of India’s population actually invests in them. This also largely explains why the pink newspapers in India, have such small circulation numbers, given that most of the stuff they publish remains irrelevant to a large section of the population.

What the above chart clearly tells us is that deposits are the main form of savings in India. First and foremost, these deposits help both the union as well as the state governments in India. It is mandatory for banks to invest a certain proportion of their deposits in government bonds (i.e. bonds issued both by the union government as well as the state governments).

The statutory liquidity ratio as this ratio is referred to as is currently at 21 per cent. Hence, for every Rs 100 raised as deposits, banks need to invest at least Rs 21 in government bonds. As on August 5, 2016, 29.3 per cent of aggregate deposits of banks were invested in government bonds.

With so much money chasing government bonds, it allows the union government to raise money at a lower rate of interest than would have been the case, if it was not compulsory for banks to invest in government securities.

Over and above the banks, the provident funds as well as the insurance companies also need to compulsorily buy government bonds. This allows the government to raise money at lower interest rates, than would have otherwise been the case.

Further, given that deposits are the main form of savings, it is this money invested by deposit holders with banks, that ultimately finds its way into the lending carried out by banks. It finances almost everything from homes to cars to two-wheelers to credit card spending to infrastructure projects to corporate takeovers.

But for all that they do as a whole, the deposit holders don’t get treated well. In fact, rarely do they even get a rate of interest on their deposits, which is higher than the rate of inflation. Take a look at the following chart.
Average Reat Rate of Return on Deposits
It shows that between 2009 and 2013, the interest rate on fixed deposits was lower than the rate of inflation. This basically meant that the purchasing power of the money invested in deposits, had been going down. Between mid-2014 and now, the rate of interest offered on fixed deposits of one year or more, has been higher than the rate of inflation.

But in the recent past, this gap has started to narrow again. Also, for those in the higher tax brackets, the real rate of return after paying tax on interest that they earn on fixed deposits, must already be in the negative territory. The real rate of return is essentially the difference between the nominal rate of interest on a fixed deposit minus the rate of inflation.

One of the ironies of the Indian tax system is that income that is earned as capital gains is either not taxed at all, or taxed at lower rates, than income which is earned as an interest on a fixed deposit. Further, capital gains made on selling a house or a debt mutual fund are even allowed the benefit of indexation. The question is why are fixed deposit investors not allowed the benefit of indexation as well, while paying taxes?

Indexation basically allows to take inflation into account while calculating the price of acquisition of an asset. This essentially ensures that the capital gains come down. And in the process, so does the tax that needs to be paid on the capital gains.

Such benefits are not available to those who invest in fixed deposits. If all this was not enough, politicians and bureaucrats keep talking about the need for lower interest rates all the time. This is something I discussed in yesterday’s column, where the commerce and industry minister, Nirmala Sitharaman, had talked about the need to lower interest rates by 200 basis-points to help the micro, small and medium enterprises(MSME) sector.

The finance minister Arun Jaitley has in the past on multiple occasions talked about the need for lower interest rates on fixed deposits. In fact, sometime back, Jaitley even said that people should be investing their money in mutual funds, bonds and shares, that finance projects and lead to economic activity. As if fixed deposits do not finance economic activity. For the finance minister of the nation to be saying something as remarkably silly as this, is surprising indeed.

As I explained earlier in the piece, fixed deposits are ultimately loaned out by banks and this creates economic activity in the process. The money invested in fixed deposits is also invested in government bonds which finance the government. Government bonds essentially help finance the fiscal deficit. Fiscal deficit is the difference between what a government earns and what it spends. The money spent by the government also creates economic activity. Hence, saying that fixed deposits do not create economic activity is totally incorrect.

Also, fixed deposits need to offer a real rate of return. One reason for this is that they are used by senior citizens to generate a regular income. In a country, where there is very little social security on offer along with the fact there is almost no specialised care for the elderly and a medical system which basically robs everyone, the least that we can do is to ensure that the interest on fixed deposits is higher than the rate of inflation. Also, as I keep saying deposits are also used to build a corpus for retirement and weddings and education of children.

Given the reasons cited above, it is important that the government treated the deposit investors with some respect and not make them the fall guy, all the time.

The column originally appeared in Vivek Kaul’s Diary on August 26, 2016

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About vivekkaul
Vivek Kaul is a writer who has worked at senior positions with the Daily News and Analysis(DNA) and The Economic Times, in the past. He is the author of the Easy Money trilogy. Easy Money: The Greatest Ponzi Scheme Ever and How It Is Set to Destroy the Global Financial System , the latest book in the trilogy has just been published. The first two books in the trilogy were published in November 2013 and July 2014 respectively. Both the books were bestsellers on Amazon.com and Amazon.in. Currently he works as an economic commentator and writes regular columns for www.firstpost.com. He is also the India editor of The Daily Reckoning newsletter published by www.equitymaster.com. His writing has appeared across various other publications in India. These include The Times of India, Business Standard,Business Today, Business World, The Hindu, The Hindu Business Line, Indian Management, The Asian Age, Deccan Chronicle, Forbes India, Mutual Fund Insight, The Free Press Journal, Quartz.com, DailyO.in, Business World, Huffington Post and Wealth Insight. In the past he has also been a regular columnist for www.rediff.com. He has lectured at IIM Bangalore, IIM Indore, TA PAI Institute of Management and the Alliance University (Bangalore). He has also taught a course titled Indian Economy to the PGPMX batch of IIM Indore. His areas of interest are the intersection between politics and economics, the international financial crisis, personal finance, marketing and branding, and anything to do with cinema and music. He can be reached at vivek.kaul@gmail.com

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