 "Freeing small savings rates easier said than done, experts say")
Finance Minister Arun Jaitley’s caution in reducing rates on small savings instruments has not come as a surprise to bankers and economists, considering the political sensitivity of the issue.
But linking the interest rate on small savings schemes to market rates could be borderline impossible, for now.
Reserve Bank of India (RBI) Governor Raghuram Rajan said on December 1 in a post policy interaction with the media that the government “was examining linking small savings interest rates to market rates”.
That, he hoped, would make policy rate transmission effective as banks could freely lower their deposit rates, which they cannot do now fearing money will flow out of bank deposits to small savings schemes that offer higher returns and tax benefits.
While details have not emerged yet, bankers said the government might take equivalent maturity government debt as the benchmark and add a spread to the secondary market yield to determine the small savings rate.
“Progressively, the spread could be brought down and let the schemes be freely floated with the corresponding maturity bond yield. This is an important source of funds for the government, hence some amount of control will always be there. But much can be done to make the rate cheaper,” said a senior executive with a private sector bank who did not wish to be named.
This is similar to the methodology that the then deputy governor of the RBI, Y V Reddy, had suggested in his report in 2001 on small savings schemes.
But that is easier said than done, according to bankers.
“Moving from administered rate to market rate is difficult. The government has to ensure that silent savers, such as retail depositors, get positive rate of return on their savings, which may not be the case if the rates get linked to market rates,” said Rupa Rege Nitsure, the chief economist of L&T Finance Holdings.
“It has a huge political ramification,” Nitsure said.
A long-standing demand from banks and even from the RBI, past governments were unsuccessful in linking the small savings rate to market rates, even as frequent revisions in rates have taken place.
Bankers have complained that administered rates distort competition and they cannot lower their deposit rates below those offered by small savings schemes, such as the monthly income scheme, public provident fund (PPF) and post office fixed deposit scheme, as savers will pull money out of banks to deposit in those instruments. The schemes offer interest rates of 8.4-8.8 per cent for all and up to 9.3 per cent for senior citizens. The rates are fixed.
In comparison, banks’ deposit rates are around 7.5 per cent now and a few basis points more for senior citizens.
About 90 per cent of India’s investment drive in 2004-2008 was financed by the country’s own savings. From 35-36 per cent of gross domestic product, India’s household savings have fallen to about 30 per cent now.
“People talk about falling investment, or falling growth, but falling savings is even more catastrophic. If the government cannot guarantee a positive rate of return on savings, people will simply not save,” Nitsure said.
Some of these savings schemes also offer tax benefits, for example PPF, even as money invested cannot be withdrawn readily, as can be done with bank deposits.
Once hugely popular, contributing as much as 35 per cent of savings by the household in early 2000s, deposits in the small savings schemes have fallen in recent times. On a net basis, collections under small savings schemes saw a 56.59 per cent reduction from January 2014 to January 2015, according to data from the National Savings Institute.
Compared with this, banks’ total deposit base in January 2015 was more than Rs 84 lakh crore, including deposits from large companies.
Past governments tried and failed to allow markets to determine the small savings rate and bankers really do not expect this government to achieve something significant either.
Speaking at the Hindustan Times Leadership Summit, Jaitley said as a lot of people depend on small schemes, “... we, as an elected government, have to look at it, in addition to the economic principles, with a sense of political pragmatism.”
Citing the Sukanya Samriddhi Scheme, he said, “If after one year, you slash it down radically, it may not be very politically prudent and therefore you have to move in that direction but a little cautiously.”
PENNY WISE
- No direct link between bank deposit rates and small savings rates, but administered rates distort competition
- Bank deposit rates cannot be less than small savings rate, else money would flow out
- If banks can’t lower deposit rates, lending rates can’t come down either
- Once small savings rates are linked to money markets, banks will have a fair playing filed
