Banks Brace for Impact from New "Just in Time" Fund Release Policy for States

Banks are set to feel the effects of a new “just in time” fund release policy for states under Centrally Sponsored Schemes (CSS). The revised procedure, which started on July 1, 2021, aims to improve monitoring and reduce the float of funds, ensuring funds are available and used effectively.

Previously, banks kept these float funds in interest-bearing savings accounts, paying interest to the Government of India (GoI) on the average balance. According to an SBI Research report, the complete removal of these funds from the banking system will likely impact the banks’ operational efficiency. The expected challenges include increased cost of deposits, higher cost of lending, reduced Net Interest Income (NII), loss of dividend income to GoI through public sector banks (PSBs), loss of savings bank interest paid on Single Nodal Agency-CSS (SNA-CSS) accounts, and issues with liquidity management by the Reserve Bank of India (RBI).

The revised SNA procedure applies the “Just in Time (JIT)” principle to all payments, aiming for more efficient cash management at both the Centre and State levels. However, this new mechanism will impact the banking system by affecting government cash balances. When the government is not spending, system liquidity can slip into a deficit, while it moves to surplus mode when spending resumes.

Government cash balances placed with the RBI do not earn interest, unlike when routed through banks. The RBI auctions these balances, and while the JIT move aims to improve cash management, it could hurt the government through lost income and challenge the RBI’s conduct of monetary policy.

This shift underscores the need for banks to adapt quickly to maintain operational efficiency and support financial stability.