Over the past one year, the bank FD rates fell sharply. After the latest revision, SBI gives interest ranging from 4.5 per cent to six per cent to general customers. And, the sword of lower rates is not just on bank FDs. The banking industry has been pitching for lower rates on small saving schemes operated by the government, saying that the interest rates on small saving schemes are still higher and so banks are unable to reduce deposit rates further. For this quarter, January to March, the government had kept interest rates unchanged on small savings schemes, including PPF, despite moderating bank deposit rates. But will the rate cut axe fall on small saving schemes soon? Let us find out.
In India, right now, we have about Rs 12 lakh crore in small savings schemes. This is just 10 per cent of the roughly Rs 114 lakh crore lying in bank deposits. Banks are arguing that small saving schemes offer high rates, which is acting as a deterrent for banks to cut rates further. While theoretically just Rs 12 lakh crore of bank’s Rs 114 lakh crore should be affected by the higher interest rates, in practice higher interest offered in small saving schemes acts like a psychological benchmark.
Currently, PPF and National Savings Certificates (NSS) or NSC fetch a 7.9 per cent interest rate annually as compared to 5-year SBI fixed deposit fetching just six per cent. Sukanya Samriddhi Account and Senior Citizen Savings Scheme offer higher rates than other small savings schemes. The girl child savings scheme Sukanya Samriddhi Account fetches 8.4 per cent (compounded annually). The five-year Senior Citizens Savings Scheme offers an interest rate of 8.6 per cent. All this means that a depositor is better off keeping money in small saving schemes compared to keeping money in bank deposits. For the average small saver, there are a plethora of small saving schemes like Post Office Saving Bank Deposits, Post Office Time Deposits, National Savings Certificate (NSC), Monthly Income Scheme (MIS), Kisan Vikas Patras (KVP) and the trusted PPF.
It is not just the small saver who relies on small saving schemes, but it turns out that the government too is heavily reliant on the money that flows in through small saving schemes. Government financing of the fiscal deficit through small savings is pegged at Rs 2.4 lakh crore in FY20 revised estimates compared to Rs 1.3 lakh crore in FY20 budget estimates. Experts say that paradoxically, the government has allowed taxpayers to prioritize consumption when the government itself is heavily reliant on small savings.
“The government increased the fiscal deficit for FY 20 to 3.8 per cent of GDP from the budgeted 3.3 per cent of GDP, but still did not announce any market borrowing; by resorting to higher funding from Small Savings,” points out Pankaj Pathak, Fund Manager, Quantum AMC.
Over the years, the NSSF has become dear to the government. All deposits received under National Saving Schemes are credited to the National Small Saving Fund (NSSF). This fund provides a solid cushion to the government. “The burden on market borrowing is being mitigated by a greater reliance on non-market sources of funding, particularly the National Small Savings Fund (NSSF). (Even) fiscal 2021 budgets this borrowing to stay at Rs 2.4 lakh crore. The share of NSSF in fiscal deficit’s financing has gone up from 1.6 per cent in fiscal 2013 to 31.3 per cent in fiscal 2020, compared with a reduction in market borrowing (net) from 96 per cent to 65 per cent,” says Crisil.
The problem is that small savings compete for the same deposits that banks want. As per ICICI Prudential MF's debt outlook report for 2020, the small saving schemes (SSS) spread over Bank Deposit Rates have remained elevated thereby restraining banks from reducing their deposit rates further. If rates are cut, will the NSSF still collect the budgeted amount of funds? That's a catch-22 situation.
“In FY19, a large part of the food subsidy was funded by the massive increase in debt that was taken on by Food Corporation of India (FCI). While the interest on the loans taken by FCI has to be paid through the budget, the borrowing does not appear in the net borrowing number. FCI borrowing is largely from the NSSF (national small savings fund). NSSF is slated to collect a higher amount in both FY20 and FY21. However, as had been the case in the past, any increase in borrowing through the small savings route leads to pressure on bank deposit rates and consequently lending rates in the economy. The only positive going for lending rate reduction is the 75 per cent CD ratio currently and likely transmission of the already cut repo rates,” writes Girish Pai, Head of Equity Research, Nirmal Bang Institutional Equities in a budget reaction report.
Already, there is an impression that Budget 2020 has not really done anything to positively impact household wealth creation. The new optional income tax structure, introduced in the Budget, can only be utilized if taxpayers don't claim existing exemptions and deductions. “Yet, for taking the benefits of the lower tax rates, the taxpayer has to forgo the existing deductions. This can negatively impact household financial savings in equity, small savings, and insurance schemes,” notes Sujan Hajra, Chief Economist and Executive Director, Anand Rathi Shares & Stock Brokers.
“Don't forget investments in small saving schemes also offer tax-saving benefits. If households move towards the new income tax regime, collections under small savings schemes can come down substantially. Consequently, additional market borrowing would be required to fund the short-fall,” Hazra argues.
Understandably, the government has treated interest rate issue of small saving schemes with kid gloves. While it is accepted that the rate of small savings should have some linkages to market rate, which is largely determined by the rates on government securities, the ‘operation of the linkage’ has been kept flaccid. Since April 2016, interest rates on small saving schemes are being revised on a quarterly basis. However, this formula for fixing small savings rates based on comparable yields on government securities has not been strictly followed in some quarters. Even if we assume that the Finance Ministry will lower rates for April to June quarter, it is unlikely that the government will sharply cut those rates.
Like depositors need the higher rates offered in small saving schemes, the government too needs to collect a good amount for the next two years from the small saving schemes. If the rates are too low, the money that goes into small saving schemes can land up elsewhere. A small cut in small saving schemes notwithstanding, a sharp cut that takes the rates to 6-6.5 per cent per annunm levels (like what we see in bank FDs) is not envisaged at the moment. From a government perspective, they will like to implement token interest cuts on small saving schemes and indicate to banks that the government is eager to walk the talk. But any drastic interest cut looks improbable. Such a situation will suit both small saving scheme depositors and the government, for the time being.
(The writer is a journalist with 14 years of experience)