Govt. faces a tough choice on interest rates


In News:

The Union government has got to make a tricky political decision of quarterly reset of interest rates on small savings schemes.


  • Sharp cuts within the rates for the present quarter on instruments, including the public Provident Fund (PPF) and National Savings Certificates (NSCs) announced on 31st March 2021, were rolled back within hours amid the West Bengal Assembly election campaign.
  • Small savings rates had been slashed between 0.5% and 1.4% on different instruments in April 2020, bringing the PPF rate to 7.1% from 7.9%.
  • The PPF returns were further slashed to 6.4% for the first quarter of 2021-22 before the govt. reversed the move citing an “oversight”.
  • The range of rate cuts proposed at the time was 0.4% to 1.1% (110 bps) on various instruments.

Important provisions:

  • According to economists, a cut in small savings rates at now would be an “unpopular” move and further hurt households amid a surge in inflation.

What are probable Reasons for the rate cuts:

  • There are no polls round the corner now.  
  • Retail inflation has shot up sharply to 6.3% in May 2021 after averaging 6.2% through 2020-21.
  • Inflation is predicted to remain elevated around 5.5%-6% through 2021-22.
  • The household savings are shrinking significantly for two quarters during a row even before the second COVID-19 wave, as per recent RBI data on savings rates for the third quarter of 2020-21.
  • The formula set for small savings rates, demand rate cut to some extent.
  • Some recent auctions of 10-year government securities (G-secs) have struggled to seek out takers at the interest rates being offered by the financial institution .
  • No bids were received.
  • The RBI has often blamed the high administered interest rates on small savings for poor transmission of its rate cuts in the economy.
  • According to CARE Ratings, the govt must revisit the formula adopted since April 2016 that links small savings rates to Gsecs’ rates, as they're not really market-determined, but are managed by the central bank.

Way Forward:

  • The RBI is ensuring rates don’t rise through a policy-induced stance of managing the yield curve, therefore the G-sec rates are becoming divorced from reality.  
  • Even the market is signalling that the RBI must pay more to boost government borrowings as we saw in the auction of the G-sec.
  • The extent of rate cuts on small savings should be carefully calibrated.
  • They can’t provides a shock that daunts financial savings by effecting sharp rate cuts like those announced last time.
  • India may be a saving dependent economy and wishes a policy that offers them an equivalent importance as investments.


The small savings schemes:  

  • It comprises 12 instruments including the National Saving Certificate (NSC), Public Provident Fund (PPF), Kisan Vikas Patra (KVP) and Sukanya Samridihi Scheme.
  • The government resets the rate of interest at the start of each quarter.
  • Since 2016, rate of interest resetting has been done supported yields of state securities of the corresponding maturity with some spread on the scheme for senior citizens, as advised by the Shyamala Gopinath Committee.
  • However, in practice, the interest rate changes are made considering several other factors, including political ones.

Public Provident Fund (PPF):

  • A Public Provident Fund or PPF may be a long-term tax-saving instrument that provides a fixed rate of interest annually on the quantity that you just invested during the year.
  • It has a lock-in period of 15 years.
  • In a PPF account, the interest you earn is tax-free and therefore the amount that's deposited during the fiscal year are often claimed under Section 80C.

National Savings Certificate (NSC):

  • A National Savings Certificate or NSC features a tenure of 5 years and comes with a fixed rate of interest.
  • The rate of interest available on NSC is 6.8 per cent which is compounded annually but payable at maturity.

Sukanya Samriddhi Account Scheme:

  • Sukanya Samriddhi Account Scheme also referred to as Sukanya Samriddhi Yojana may be a savings scheme launched back in 2015 as a part of the “Beti Bachao, Beti Padhao” initiative by the govt .
  • It can only be opened by the natural or legal guardian of a girl child aged below 10 years.
  • The account matures on completion of 21 years from the date of opening.
  • In cases where the marriage of the account holder takes place before the completion of a period of 21 years, the operation of the account shall not be permitted beyond the date of her marriage.
  • A minimum of Rs 1,000 and a maximum of Rs 1.5 lakh are often invested during this scheme in a financial year.
  • Presently, it provides an interest of 7.6 per cent compounded annually.

Kisan Vikas Patra:

  • Kisan Vikas Patra may be a savings scheme available at the India Post Office in the sort of certificates.
  • It is a fixed rate small savings scheme that doubles your investment after a predetermined period of time (presently 124 months at an interest of 6.9 per cent).

Senior Citizen Savings Scheme:

  • Senior Citizen Savings Scheme offers a daily income with the highest safety and tax-saving benefits.
  • It is available for those over 60 years of age. It provides a tax write-off of up to Rs 1.5 lakh under Section 80C.
  • At present, it offers 7.4 per cent which is compounded quarterly and paid.



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