Paradox of low interest and savings

| Updated: October 23, 2017 03:42:53

Paradox of low interest and savings

There is a logic in economics that when the interest rate is lower, savings, specially with financial intermediaries like banks which pay the interest will also be low. This, in other words, also means, savings with banks depends on interest rates they pay. But in many economies around the world, banks do not pay any interest against deposit, but still people keep money with the banks. Why? The answer is, people do not keep money with banks only for interest; they keep it there for transaction purpose as well as for security. 
It is true, for many, interest is one of important sources of income, but, in developed countries, they receive interest offered by bonds of different categories. Usually persons, who prefer a definitive income or to an extent less risk-free income, buy bonds and hold these for the periods they deem fit. The risk-lovers usually opt for stock market investment or buy futures, a derivative in the commodity market. 
The reality is that for risk-lovers, there are many options, but for the risk-averters there are only few options like investing in interest-bearing bonds or keeping money with  banks on long-term basis. Does savings in the economy has any relation with the interest rate? The answer is yes, or no. With a zero interest rate on deposits with banks, the economy may save more and invest more. That happens mostly from re-investment of the retained earnings in companies and also from investment fund received from debt instruments like bonds. So, interest rates, whether high or low, offered by banks matter less when seen in terms of volume of investment taking place in an economy. 
The other option like investing in bonds for interest income is more available in advanced economies than the ones like that of Bangladesh. Bangladesh could not develop its bond market, at least, for  individual investors. Whatever bond market is there, it is open for the financial institutions; they invest their surplus money with bonds issued, normally, by the government and government-owned entities. For individuals with surplus money, the bond market is still out of reach. In the absence of bond market, no other option for risk-averting investors exists, most of the risk-averting individuals with surplus money rush to banks, preferably, for keeping money in term accounts of banks. 
In Bangladesh, we frequently hear people are asking men with the knowledge of finance what the term interest rates mean, or popularly what is known as FDR rates with the banks. When banks were offering high interest rates on the term deposits these people were very happy but when the banks started lowering these rates, they are found to be unhappy. Now-a-days, they take a deep sigh when they talk of deposit rates or interest rates with the banks. They are asking the question how the fixed-income earning people will meet their two ends meet in the absence of any income, in real sense, from the deposits with the banks. There is no straight answer to the question except telling them to re-shuffle their portfolios and opt for, if possible, for more risky options like stock market investment which is paying better yields than the banks. 
The reality is that our people are not used to go for stock market investment. They do not, partly, because of traditional thinking and partly, because of an unexplained fear in their psychology about stock market investment. True, stock market in Bangladesh is yet to be mature to attract investing public. But the better option is to help the stock market grow so that it can offer varieties of options ranging from one of the less risky to those of more risky investment. Bangladesh should bring some changes in its policy options towards bringing up the other asset markets like that of gold and commodity for investment purpose by the people. 
Investing public should not be guided only to invest with banks for interest and in the government-sponsored savings instruments of different durations. Apart from the retained earnings as the source of savings, the investors can also save by subscribing to right shares offered by companies. Buying Initial Public Offerings (IPOs) in the primary stock market is also a kind of savings.
The writer is Professor of Economics University of Dhaka, 
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