Small Savings Schemes Interest Rates: Are they unrealistically high?

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April 6, 2021 6:27 PM

The overnight reversal of up to 1.1 per cent cut in the interest rates of Small Saving Schemes for the first quarter of FY 2021-22 raises doubt if the current rates are unrealistically high.

interest rate, rate of inflation, small saving schemes, Post Office Schemes, Sukanya Samriddhi Yojana, PPF, NSC, KVP, Senior Citizen Saving Scheme, SCSSIn October 2020, the rate of inflation was marginally higher than the highest interest rate of 7.6 per cent offered on SSY.

The overnight reversal of up to 1.1 per cent cut in the interest rates of Small Saving Schemes – popularly known as Post Office Schemes – for the first quarter of the Financial Year 2021-22 raises doubt if the current rates are unrealistically high.

If the interest rates on Small Saving Schemes are compared to the current Repo rate of 4 per cent, the rates do look high – 7.6 per cent on Sukanya Samriddhi Yojana (SSY) Account Scheme, 7.4 per cent on Senior Citizen Savings Scheme (SCSS), 7.1 per cent on Public Provident Fund (PPF), 6.9 per cent on Kisan Vikas Patra (KVP), 6.8 per cent on National Savings Certificate (NSC), 6.7 per cent on 5-year Time Deposit, 6.6 per cent on Monthly Income Scheme (MIS), 5.8 per cent on 5-year Recurring Deposit, 5.5 per cent on 1-year, 2-year and 3-year Time Deposits and 4 per cent on Post Office Savings Account.

However, if the rates look reasonable if compared with the rate of inflation, which was mostly over 6 per cent in FY 2020-21, touching the peak of 7.61 per cent in October 2020. The rate fell sharply from 6.93 per cent in November to 4.59 per cent in December not only due to cooling down of prices during the winter, but also due to change in the method of calculation of the rate of inflation.

So, in October 2020, the rate of inflation was marginally higher than the highest interest rate of 7.6 per cent offered on SSY.

While the rate of inflation fell further to 4.06 per cent in January, it raised its head again in February to touch 5.03 per cent and would continue its upward movement for the major part of FY 2021-22.

interest rate, rate of inflation, small saving schemes, Post Office Schemes, Sukanya Samriddhi Yojana, PPF, NSC, KVP, Senior Citizen Saving Scheme, SCSSSource: Ministry of Statistics and Programme Implementation (MOSPI)

So, the question is – are the interest rates on Small Saving Schemes too high or is the Repo rate too low?

Repo rate is one of the key policy rates that is used by the policymakers to either boost economic activities by lowering the rate or to control inflation by increasing it.

When the Repo rate is lowered, the interest rates on both deposit and lending come down, which makes deposits unattractive. As a result, people prefer to spend more and save less, which boosts demand. On the other hand, low lending rates encourage industries to take more loans to boost production, leading to higher economic activities.

However, when the Repo rate is increased, the interest rates on both deposit and lending move up, which makes deposits attractive. As a result, people prefer to spend less and save more, which leads to a decrease in consumption and investments, and ultimately a reduction in demand. Higher rates also make imports attractive, which coupled with lower demand, result in a lower rate of inflation.

As finance ministers and governors of central banks all over the world use it to tackle inflation, ideally, the Repo rate should match the rate of inflation.

However, presently in India, the focus is more on boosting economic activities by keeping the policy rates low rather than controlling the inflation.

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The equity markets are reacting positively, but the lower interest regime results in negative return on fixed-income instruments like bank fixed deposit (FD) compared to the rate of inflation as the money invested loses its purchasing power on maturity after failing to keep pace with the rising price levels. The situation becomes even worse after paying income tax on the interest earned on such instruments.

So, compared to the rate of inflation, some of the Small Saving Schemes are giving marginally better returns when the rate of inflation is low, while others are still lagging the increasing price level for most part of the year.

Hence, it can’t be said that the current rates on Small Saving Schemes are unrealistically high.

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