Economics science says, there is a linkage between interest rate and savings. The linkage is: the higher the interest rate is, the more will be savings. That is, more money from present income will be saved by the people for future consumption. The same can be explained also by saying that if interest rate is low, more income will flow to consumption and less will remain for savings. In an extreme case, all incomes may go for consumption and savings will be zero.
But does only the interest rate affect the propensity to savings or are there other factors like the way someone projects his future needs? In countries where well-covered social security nets are in place, people may save less. Also, postponement of present consumption or saving money for future consumption depends on the level of income as well as present spending habits of a person who earns an income.
A person, who lives from hand to mouth or whose income merely supports his livelihood, cannot allocate any part of his income for savings. To such a man, the present is more important than the future. Also, why should someone be saving money? To grow rich by the income from interest or just to shield his future against untoward incidents? But very few people save with banks or other financial institutions that offer interest to depositors to become rich. Many people save just to protect the future from uncertainties.
No one can measure the future need of money accurately, but people feel that if they save today, tomorrow will be safer. Savings take many forms, such as savings with financial institutions or saving money by investing in instruments of asset markets like buying stocks of companies. Savings against the offer of interest by the financial intermediaries is more traditional than the other types of savings or savings through investment.
In Bangladesh, people with surplus income are habituated to savings with banks. They always count how much money they will receive at the end of the term from the money they deposited with banks. If banks offer higher interest rates, they are happy. If banks reduce the same, they are unhappy. Some of these people also argue that as the banks' interest rates are going down, there will be less savings in the economy and by extension, less investment. But this argument is not correct; rather a falling interest regime offers more incentives for investment.
Savings, if it remains idle, is also bad. That only piles up the liability of banks on entities which pay interest. The interest rates in financial markets of Bangladesh are going down since one year or so. That was the result, partly, of the Bangladesh Bank's monetary policy which, to an extent, has been pro-investment unlike the ones strictly aiming at containing inflation.
Secondly, banks are feeling one kind of pressure from within as they are sitting on a huge amount of idle money in the absence of a rising demand for money for investment. Naturally, there will be a shifting of equilibrium of interest downward when banks adjust their cash management.
Though the lending rates are still the old ones, for some other reasons like piling up of non-performing loans, the banks are adjusting the depositors' rates by offering less interest. Will this adjustment reduce the overall savings in the economy? This writer does not think so. The deposits in banks will not go down. What will happen is that more money will flow to current account than the same to savings or term accounts. Savings in such a situation will take the route of direct investment other than the ones with banks for interest. More people are expected to flock to the share market for buying stocks.
At the moment, in many cases, the yield rates in the stock market are much higher than interest incomes from savings with banks. With a lower interest rate regime, the investors will feel encouraged to invest more. The idle money that is there with the banks will be reduced as the pace of investment will pick up. How long will the interest rates be falling in the Bangladesh economy? It all depends on the monetary policy of the Bangladesh Bank and also how quickly the banks can use idle money through lending to businesses or going for their own portfolio build-up directly.
The traditional savers with the banks in a falling interest rate regime should search for other avenues for savings, including the one of direct investment in the stock market. This writer will again say, Bangladesh should open up other asset markets like that of gold and gems for investors with the surplus money. A diversified investment market does not only take care of the traditional savers with banks, but will also allure the people with money.
The writer is Professor of Economics, University of Dhaka.
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