NEW DELHI: The government’s recent decision to leave the interest rates on small savings schemes for the July-September quarter unchanged comes at a cost. The interest paid every year against small savings schemes has been growing at 18% CAGR in the last five years, and the decision not to reduce the interest rates of these schemes would only aggravate the already fragile fiscal situation of the central government.
Just a week after the Finance Ministry had rolled back its decision to reduce the interest rates on small savings scheme for April-June quarter, the Reserve Bank of India (RBI) in its April 7, 2021 monetary policy report had observed that the interest rates on small savings for various instruments are 69-198 bps higher than the formula-based rates.
Yet the government had to roll back its decision after facing a backlash. The government had on April 1 decided to cut the interest rates on small savings schemes drastically by 40-110 basis points before reversing the decision.
It was expected then that the rates would be reduced for the July-September quarter. However, the government decided to maintain the status quo lest it faced public anger.
How costly could the government’s reluctance to reduce rates on small savings schemes prove?
“A 1% higher interest rate on small savings deposit base of today costs around Rs 16,000-17,000 crore in a year,” says Subhas Chandra Garg, former secretary, department of economic affairs, Ministry of Finance.
The government’s budget estimate for interest payment on small savings schemes and provident funds for 2021-22 is Rs 1.60 lakh crore, a 29.4% increase over last year’s Rs 1.24 crore. This is 20% of the government’s estimated interest cost of Rs 8.09 lakh crore for 2021-22.
The actual figure could well be much higher than Rs 1.60 lakh crore as the government has not been able to take advantage of lower yields (and reduce the interest rates) in the first six months of the financial year.
The interest payments by the government on small savings schemes have grown by more than doubled in the last five years from Rs 70,000 crore in 2016-17 to an estimated Rs 1.60 lakh crore in 2021-22.
According to RBI, the government was paying almost 200 basis points higher interest on 1-year term deposit (5.5%) compared to formula-based rate of interest in the first quarter of 2020-21. Similarly, the government was paying 69 basis points higher interest on the Public Provident Fund (PPF) than the formula-based rate. The interest rate on PPF is currently 7.1%.
Should the government then bite the bullet and reduce the interest rates on these schemes?
“It is no big bullet to bite. If the government can impose at least 1 lakh crore of extra burden on common people in the form of petroleum product taxes, this is a relatively small matter,” says SC Garg.
He further argues that in any case, banks have reduced the savings and fixed deposit rates which the same set of savers have accepted quite well. Bank deposits are 6-7 times higher than small savings deposits.
In the last one year, banks have reduced FD rates by 50-80 basis points.