In India, the interest rate on savings accounts in all the nationalized commercial banks is fixed by

1. Structure of the Indian Banking System (basic)

Welcome to your journey into the Indian financial landscape! To understand how the Reserve Bank of India (RBI) functions, we must first look at the architecture it governs. At the very top sits the RBI, and below it, the banking system is primarily divided into two categories: Scheduled and Non-Scheduled Banks.

A Scheduled Bank is one that is included in the Second Schedule of the RBI Act, 1934. To earn this status, a bank must demonstrate to the RBI that its operations are not detrimental to the interests of its depositors and must maintain a minimum paid-up capital and reserves Indian Economy, Nitin Singhania (2nd ed. 2021-22), Money and Banking, p. 175. While older rules specified a lower threshold, modern requirements for new universal banks generally necessitate a paid-up share capital of at least ₹500 crores Indian Economy, Vivek Singh (7th ed. 2023-24), Chapter 2: Money and Banking- Part I, p. 81. Being "Scheduled" is a mark of regulatory trust; these banks are entitled to borrow from the RBI at the Bank Rate or through Repo windows during liquidity crunches, though they must strictly adhere to CRR (Cash Reserve Ratio) and SLR (Statutory Liquidity Ratio) mandates Indian Economy, Nitin Singhania (2nd ed. 2021-22), Money and Banking, p. 174.

Most of the banks you interact with daily are Scheduled Commercial Banks (SCBs). These are classified based on their ownership:

• Public Sector Banks (PSBs): The Government of India holds a majority stake (more than 51%). This includes the State Bank of India (SBI) and Nationalized Banks. Nationalization (majorly in 1969 and 1980) was a strategic move to ensure that banking served social objectives and reached the "commanding heights" of the economy Indian Economy, Vivek Singh (7th ed. 2023-24), Chapter 2: Money and Banking- Part II, p. 125.
• Private Sector Banks: Owned by private individuals or corporations (e.g., HDFC, ICICI).
• Foreign Banks: Banks incorporated outside India but operating branches here (e.g., HSBC, Citibank).
• Regional Rural Banks (RRBs): Specialized banks focused on the credit needs of the rural population.

Feature	Scheduled Banks	Non-Scheduled Banks
Legal Basis	Listed in 2nd Schedule of RBI Act, 1934	Not listed in the 2nd Schedule
RBI Borrowing	Entitled to borrow for regular banking needs	Generally not entitled (except in emergencies)
Key Examples	SBI, PNB, HDFC, ICICI	A few Local Area Banks (LABs)

Beyond ownership, the RBI acts as the ultimate supervisor. Even for aspects that seem market-driven, like interest rates, the RBI holds the regulatory reins. For example, while many lending rates are deregulated, the RBI historically fixed the savings bank account interest rate (e.g., at 4% in 2011) and continues to oversee prudential norms for all deposits to ensure stability Indian Economy, Vivek Singh (7th ed. 2023-24), Chapter 2: Money and Banking- Part I, p. 66.

Sources: Indian Economy, Vivek Singh (7th ed. 2023-24), Chapter 2: Money and Banking- Part I, p.81, 66; Indian Economy, Nitin Singhania (2nd ed. 2021-22), Money and Banking, p.174-175; Indian Economy, Vivek Singh (7th ed. 2023-24), Chapter 2: Money and Banking- Part II, p.125

2. Functions of the Reserve Bank of India (RBI) (basic)

To understand the Reserve Bank of India (RBI), we must first view it as the 'custodian of trust' in our financial system. Its primary role in Regulation and Supervision is not just about making rules; it is about protecting the hard-earned money of depositors and ensuring that banks remain 'solvent' (able to pay their debts) and 'liquid' (having enough cash for withdrawals). This creates a foundation of financial stability, preventing the kind of systemic collapses that can paralyze an economy Indian Economy, Vivek Singh (7th ed. 2023-24), Money and Banking- Part I, p.66.

The RBI doesn't act on whims; it derives its authority from two powerful pillars of law: the RBI Act, 1934 and the Banking Regulation Act, 1949. These laws give the RBI the 'teeth' to issue licenses, set interest rate frameworks, and inspect the internal workings of banks. For instance, while most interest rates are now 'deregulated' (meaning banks decide them based on market forces), the RBI still retains the power to prescribe interest rates on certain categories, such as savings bank accounts, to protect public interest Indian Economy, Nitin Singhania (ed 2nd 2021-22), Money and Banking, p.176.

Interestingly, this watchful eye extends far beyond your local commercial bank. The RBI also regulates Non-Banking Financial Companies (NBFCs), Cooperative Banks, and specialized All-India Financial Institutions like NABARD and SIDBI. A critical evolution occurred in July 2019, when the law was amended to allow the RBI to supersede the boards of NBFCs in cases of mismanagement, a power it previously held only for banks Indian Economy, Vivek Singh (7th ed. 2023-24), Money and Banking- Part I, p.67.

Sources: Indian Economy, Vivek Singh (7th ed. 2023-24), Money and Banking- Part I, p.66-67; Indian Economy, Nitin Singhania (ed 2nd 2021-22), Money and Banking, p.173, 176

3. Monetary Policy Transmission and Interest Rates (intermediate)

To understand how the Reserve Bank of India (RBI) influences the economy, we must look at Monetary Policy Transmission. This is the process through which the RBI’s policy decisions (like changing the Repo rate) actually reach your wallet. Think of the RBI as the 'wholesaler' of money and commercial banks as the 'retailers.' When the wholesaler changes the price of credit, the retailers eventually have to adjust their own prices—the interest rates they offer you. Indian Economy, Vivek Singh (7th ed. 2023-24), Money and Banking- Part I, p.89

The primary lever used here is the Repo Rate, also known as the Policy Rate. This is the rate at which banks borrow overnight liquidity from the RBI against government securities. When the RBI increases the Repo Rate, it becomes more expensive for banks to borrow. To maintain their profit margins, banks then increase their Lending Rates (making loans costlier) and Deposit Rates (to attract more money from the public). Conversely, when the RBI wants to stimulate the economy, it adopts an Accommodative or 'Dovish' stance, lowering rates to increase the money supply. Indian Economy, Vivek Singh (7th ed. 2023-24), Money and Banking- Part I, p.61, 64

Transmission also works through the Money Market. For instance, the Reverse Repo Rate acts as a floor. Since banks can always park excess cash with the RBI to earn the Reverse Repo rate with zero risk, they will never lend to other banks in the 'call money market' for a rate lower than that. This creates a 'corridor' that forces interest rates across the entire economy to move in the direction the RBI desires. Indian Economy, Vivek Singh (7th ed. 2023-24), Money and Banking- Part I, p.89

While many rates are now deregulated (meaning banks decide them based on market forces), the RBI still holds the ultimate authority to prescribe interest rate structures and prudential norms when necessary to ensure stability. Indian Economy, Vivek Singh (7th ed. 2023-24), Money and Banking- Part I, p.66

Policy Stance	Alternative Names	RBI Action	Goal
Expansionary	Dovish / Easy Money	Lower Repo Rate	Increase Money Supply / Growth
Contractionary	Hawkish / Tight Money	Raise Repo Rate	Decrease Money Supply / Control Inflation

Sources: Indian Economy, Vivek Singh (7th ed. 2023-24), Money and Banking- Part I, p.61, 64, 66, 89; Macroeconomics (NCERT class XII 2025 ed.), Money and Banking, p.42

4. Priority Sector Lending (PSL) Norms (intermediate)

Priority Sector Lending (PSL) is a critical regulatory tool used by the Reserve Bank of India (RBI) to ensure that credit flows into sectors of the economy that are essential for inclusive growth but might be neglected by banks in favor of more profitable corporate sectors. Think of it as a 'mandatory credit quota.' While the RBI does not fix preferential interest rates for these loans, it mandates that a specific percentage of a bank's Adjusted Net Bank Credit (ANBC) must be directed to these priority areas Vivek Singh, Money and Banking- Part I, p.71. The goal is to provide timely and adequate credit to employment-intensive and vulnerable sectors like Agriculture, MSMEs, Housing, Education, and Renewable Energy. In 2020, the RBI even expanded this list to include India’s Startup sector to foster innovation Nitin Singhania, Financial Market, p.241.

The targets for PSL vary depending on the type of bank, reflecting their specific mandates. While Scheduled Commercial Banks (SCBs) generally have a target of 40%, specialized institutions like Regional Rural Banks (RRBs), Co-operative Banks, and Small Finance Banks (SFBs) have a much higher target of 75% of their ANBC Nitin Singhania, Financial Market, p.241. To address regional disparities, the RBI has introduced a weightage system: if a bank lends to a district where the per capita credit flow is low (less than ₹6,000), that loan gets a higher weight of 125% toward their PSL target, whereas lending in 'credit-saturated' districts might only get 90% weightage Vivek Singh, Money and Banking- Part I, p.72.

What happens if a bank fails to meet these targets? They don't just get a slap on the wrist. Instead, the shortfall is 'parked' in specialized funds like the Rural Infrastructure Development Fund (RIDF) managed by NABARD, or other funds with SIDBI, NHB, and MUDRA Ltd. Vivek Singh, Money and Banking- Part I, p.71. Alternatively, banks can use Priority Sector Lending Certificates (PSLCs). This is a market-driven mechanism where a bank that has exceeded its target can sell 'certificates' to a bank that has a shortfall, allowing the latter to meet its regulatory requirements without actually lending the money themselves Nitin Singhania, Financial Market, p.241.

Sources: Indian Economy, Vivek Singh (7th ed. 2023-24), Money and Banking- Part I, p.71-72; Indian Economy, Nitin Singhania (2nd ed. 2021-22), Financial Market, p.241

5. Lending Rate Frameworks: MCLR and EBLR (exam-level)

One of the most critical challenges in central banking is Monetary Policy Transmission—ensuring that when the RBI changes the Repo Rate, the benefit (or cost) actually reaches the end consumer. To achieve this, the RBI has evolved the frameworks through which banks determine their lending rates, moving from the Base Rate system to MCLR, and finally to EBLR.

The Marginal Cost of funds-based Lending Rate (MCLR) was introduced on April 1, 2016, to make lending rates more sensitive to policy changes Nitin Singhania, Money and Banking, p.169. Unlike the previous system which used the "average" cost of funds, MCLR uses the marginal cost—the cost of the last unit of deposit or fund raised by the bank. This ensures that any change in the Repo Rate by the RBI impacts the bank's calculation almost immediately. The MCLR is calculated based on four specific factors: Marginal cost of funds, the cost of maintaining CRR and SLR, Operating costs of the bank, and a Tenor Premium (the risk associated with longer-duration loans) Vivek Singh, Money and Banking- Part I, p.90.

However, because MCLR is an internal benchmark—calculated by each bank individually—banks still had some discretion, which sometimes delayed the transmission of rate cuts to borrowers. To solve this, the RBI introduced the External Benchmark Lending Rate (EBLR) framework. Under EBLR, banks must link their loan rates to an independent, external market indicator that they do not control, such as the RBI Repo Rate or Treasury Bill yields Vivek Singh, Money and Banking- Part I, p.91. This makes the system highly transparent: the moment the RBI changes the Repo Rate, the lending rate for the borrower changes automatically, without the bank having to recalculate its internal costs Vivek Singh, Money and Banking- Part I, p.92.

Comparison of Frameworks

Feature	MCLR (Internal)	EBLR (External)
Benchmark Type	Internal (decided by the bank based on its own costs)	External (decided by the market or RBI)
Key Component	Marginal cost of deposits/funds	Repo Rate / T-Bill yields / FBIL rates
Transmission Speed	Relatively slower; subject to bank review	Instantaneous; automatic adjustment

Sources: Indian Economy, Nitin Singhania, Money and Banking, p.169; Indian Economy, Vivek Singh (7th ed. 2023-24), Money and Banking- Part I, p.90; Indian Economy, Vivek Singh (7th ed. 2023-24), Money and Banking- Part I, p.91; Indian Economy, Vivek Singh (7th ed. 2023-24), Money and Banking- Part I, p.92

6. Deregulation of Deposit Interest Rates (exam-level)

In the earlier decades of Indian banking, the Reserve Bank of India (RBI) operated an 'administered interest rate' regime, where it directly fixed the interest rates for various types of deposits and loans. However, as part of financial sector reforms, the RBI moved toward deregulation. This means that, currently, the interest rates on most categories of deposits (like Fixed Deposits, Recurring Deposits, and Savings Accounts) and lending are largely determined by the commercial banks themselves based on market forces, competition, and their own cost of funds Indian Economy, Vivek Singh (7th ed. 2023-24), Money and Banking- Part I, p. 66.

While deregulation gives banks autonomy, the RBI does not completely step out of the picture. It continues to regulate interest rates for specific categories to protect national interests or vulnerable sectors, such as NRI deposits and export credits Indian Economy, Vivek Singh (7th ed. 2023-24), Money and Banking- Part I, p. 66. Furthermore, even for deregulated rates, the RBI influences them indirectly through Monetary Policy. For instance, when the RBI raises the Repo Rate, the cost of borrowing for banks increases, and the 'call money rate' (the rate at which banks borrow from each other) also rises. To attract more liquidity, banks eventually raise their own deposit rates Indian Economy, Vivek Singh (7th ed. 2023-24), Money and Banking- Part I, p. 89.

To understand the current landscape of who controls what, consider the following table:

Feature	Regulated by RBI	Determined by Banks (Deregulated)
Savings & Term Deposits	No (Mostly deregulated since 2011)	Yes (Based on commercial interest)
NRI Deposits	Yes (RBI sets ceilings/rules)	No (Subject to RBI guidelines)
Export Credit (Loans)	Yes (RBI prescribes rates)	No (Directly regulated)
Prudential Norms	Yes (Capital adequacy, etc.)	No (Must follow RBI rules)

It is important to note that while banks have the freedom to set rates, they must follow prudential norms prescribed by the RBI to ensure the banking system remains stable and that depositors' interests are protected Indian Economy, Vivek Singh (7th ed. 2023-24), Money and Banking- Part I, p. 66.

Sources: Indian Economy, Vivek Singh (7th ed. 2023-24), Chapter 2: Money and Banking- Part I, p.66; Indian Economy, Vivek Singh (7th ed. 2023-24), Chapter 2: Money and Banking- Part I, p.89

7. Solving the Original PYQ (exam-level)

Having just explored the Monetary Policy Framework and the evolving role of the Reserve Bank of India (RBI), this question tests your ability to apply the concept of Interest Rate Deregulation. In your recent modules, we discussed how the Indian banking sector shifted from a regime of Administered Interest Rates to a Market-Linked approach to enhance competition. This specific question asks you to identify the authority that dictates the returns on your savings, requiring you to distinguish between government policy, constitutional bodies, and regulatory mandates.

To arrive at the correct answer, you must recall that the RBI was historically the body that fixed these rates. For instance, the RBI fixed the rate at 4% in May 2011. However, shortly thereafter in October 2011, the RBI deregulated savings bank interest rates, as noted in Indian Economy, Vivek Singh (7th ed. 2023-24). Since the Ministry of Finance, the Finance Commission, and the IBA do not have the statutory power to fix these rates, the correct answer is (D) None of the above. Today, the power to fix these rates actually lies with the Boards of the individual commercial banks themselves, subject to certain RBI prudential guidelines.

UPSC frequently uses the Union Ministry of Finance as a distractor to exploit the misconception that "Nationalized" banks are under direct price-control by the government. Similarly, the Union Finance Commission is a Constitutional body concerned with the distribution of tax proceeds between the Center and States, making it entirely irrelevant to commercial banking operations. The Indian Banks’ Association (IBA) is a voluntary consultative body and lacks the regulatory authority to mandate interest rates. By eliminating these functional mismatches, you can confidently identify the RBI (or the banks themselves) as the actual decision-makers.