The efficacy of monetary policy action lies in the speed and magnitude with which they are transmitted to the economy. However, despite RBI reducing the policy rate by 125 bps in 2015, the retail lending rates of banks has been lowered by only about 50-60 bps. One of the reasons cited for not lowering the lending rates commensurate to RBI’s policy rate cut is the stickiness of the interest rate offered on small savings scheme (SSS) by the Union government which competes with the fixed deposit schemes offered by them in the retail segment
The interest rate offered on SSS has been analysed by various committees in the past, and all of them have recommended an annual resetting of the interest rate. However, administered rates have often been found to be rigid due to the social security aspect of SSS rather than the viability of the scheme. SSS instruments serve the twin objectives of providing social security to small investors and mobilising resources for the government. A large part of money collected through SSS is invested in National Small Savings Fund (NSSF).
Although the importance of small savings instruments has been changing with the times, they are still considered as one of the safest forms of investments for small savers/investors, working class and retired people. The prime reasons for this are: higher interest rate offered as compared to the bank fixed deposits, income tax benefits; and their availability even where banking facilities are not available.
Savings generated through SSS finance a large part of general government deficit. However, due to the higher interest rate offered on these schemes, they are a costly form of deficit financing. As a result, states have been increasingly reluctant to use NSSF and are financing their fiscal deficit more from market borrowings—which increased to 70.9% during FY08-FY15 (BE) from 23.7% during FY00-FY07.
Until recently, the interest rates on SSS instruments were being fixed on an annual basis and average interest paid on them was in excess of 8.6%, as compared to the less-than-8.5% average interest earned since FY13. Even for FY17, the average interest earned on SSS instruments is likely to be 8.3% and average interest pay-out 8.5%. A sustained asset liability mismatch of NSSF has resulted in the gap increasing to 12.65% of the liabilities in FY14 (11.47% in 2016-17) from 1.24% in FY00. The cumulative income expense gap in FY16 stands at R1,037.16 billion (0.76% of GDP).
Gross small savings grew at a CAGR of 12.8% during FY00-FY10. After the discontinuation of KVPs in December 2011, the CAGR of gross small savings dropped to 2.6% for FY11 to FY15. However, reintroduction of KVPs at an interest rate of 8.7% and introduction of Sukanya Samridhi at an interest rate of 9.2% in FY16 pushed the gross collections of small savings by 34.6% y-o-y.
The Union government, on February 16, 2016, announced that instead of resetting interest rates on SSS annually, it will reset them quarterly based on the G-Sec yields of the previous three months. This will come into effect from FY17. Interest rate on SSS for each quarter will be announced on the fifteenth day of the last month of the preceding quarter. As a result, the interest rates for various SSS were recalculated for first quarter of FY17 on March 18, 2016, and were 40-130 bps lower than the prevailing interest rates. The total interest cost on SSS for first quarter of FY17 is likely to come down by R2.12 billion. Maximum outstanding balance is under monthly income scheme (32.86%) followed by KVPs, NSC VIII and recurring deposit accounts. The resetting of interest rates on a quarterly basis means investors in SSS instruments will face greater volatility in their returns/interest income. For March 2016, G-sec yields for various maturities were 14-23bps lower than the average for December 2015 to February 2016.
RBI, on April 5, 2016, cut the repo rate by 25 bps and reduced the policy corridor to ±50 bps from ±100 bps earlier. It is expected that policy rates may be cut by at least another 25 bps in FY17. All these measures will impact benchmark government securities rates and will push the returns/interest income on SSS instruments further downwards. This will certainly reduce the cost of deficit financing but will also reduce the income of SSS investors. It will hit retirees/ senior citizens, for whom interest on SSS is a primary source of income, hard.
Although the size of the funds mobilised under SSS is less than 10% of the time and demand deposits of banks, it constitutes sizeable proportion (average 35.5% during FY00 to FY14) of household savings in financial assets. Due to the reintroduction of KVPs and introduction of Sukanya Samriddhi scheme in FY15-16, in all probability, the proportion of small savings in household savings in financial assets would have increased beyond 35.5%. This does give some credence to banks’ view that the high interest rates offered on SSS instruments are indeed a hindrance to faster monetary transmission because SSS instrument compete with banks’ time deposit scheme.
Based on a report of India Ratings “NSSF—Viability Versus Return”
Devendra Kumar Pant is chief economist, Sunil Kumar Sinha is principal economist and Anuradha Basumatari, associate director, at India Ratings and Research. Views are personal
