Bank depositors can breathe easy with ₹5 lakh cover

In a bid to restore the confidence of depositors, the Budget has increased the deposit insurance cover to ₹5 lakh from the existing ₹1 lakh. Given that the coverage under the Deposit Insurance and Credit Guarantee Corporation of India (DICGC) was last raised in 1993, from ₹30,000 to ₹1 lakh, the revision was long overdue. And given that India has the lowest deposit cover vis-à-vis other countries, the move is surely welcome.

But a higher deposit cover would imply that the stronger banks will have to pay a higher premium, mostly for the benefit of weaker banks. Will the banks pass on this rise in premiums to the depositors? Or will the recommendations of the Jasbir Singh committee for introduction of risk-based premium be adopted? For more clarity on this, the final contours of the proposal will have to be studied carefully.

Relief indeed

Deposit insurance in India covers all commercial banks, small finance banks, local area banks, regional rural banks and co-operative banks. Each depositor is insured up to ₹1 lakh for both principal and interest. The deposits kept in different branches of a bank are aggregated for the purpose of insurance cover.

Applying the inflation rate (consumer price index as put out by RBI) since 1993, the deposit insurance cover should have been around ₹5.5 lakh, currently. Raising the cover to ₹5 lakh is, hence, more or less in line with most expectations.

The increase in cover will also imply that more deposits are covered under DICGC. Currently, only 28 per cent of deposits in value is covered. This is because, a decade ago, when 60 per cent of deposits in India were covered under DICGC, nearly 45 per cent of bank deposits were in the less than ₹1 lakh bucket. But, currently, only 7 per cent of deposits are in the less than ₹1 lakh category. A much higher 37 per cent of deposits are in the ₹1- 15 lakh range now.

The deposit cover in India has clearly not kept pace with the sharp jump in the average size of deposits over the past decade. In 2004-05, the average amount in each account was about ₹37,000. Over the last decade this amount has almost doubled to about ₹67,000.

Hence the higher ₹5 lakh cover is sure to bring relief to depositors. But the cover is still among the lowest globally. At about $7,000, India’s deposit cover is still lower than that of Malaysia, at about $60,445 (according to 2019 annual survey by the International Association of Deposit Insurers), and even Indonesia with a cover of $1,39,860. The equivalent figure for Brazil is $64,519 and for Mexico about $1,26,743.

Pertinently, in countries such as Mexico, coverage levels are indexed to inflation, and for the deposit insurance to hold any real value, it would have been better to insure deposits based on an inflation index.

But what should immediately concern banks and depositors is the question of who will bear the cost of the increase in insurance cover.

Higher cost

A key roadblock to increasing the cover until now has been the resultant increase in premium, which is currently borne by the banks, and not the depositors. The DICGC currently charges a maximum premium of up to 10 paise per ₹100 per annum. Hence, larger banks with higher deposit base would end up bearing the burden of a higher premium.

To overcome some of these issues, a committee headed by Jasbir Singh had, in 2015, made recommendations for the introduction of risk-based premium for banks (higher the risk, higher the premium).

The effective premium rate could be determined by multiplying the base rate by a multiple (a multiplicative factor) representing rating. On, say, a base premium rate of 10 paise, a bank falling within the topmost category (with least risk) will have a multiple of 0.95, which would imply an effective premium of 9.5 paise. The multiplicative factor goes up to 1.25 for the highest risk category of banks.

But whether these recommendations are implemented remains to be seen. In any case, with banks having to pay higher premium, some of this could get passed on to the depositors, directly or in the form of higher charges on other transactions.

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