The government on Tuesday decided to do away with the higher interest income earned through Kisan Vikas Patras (KVPs) and other small saving schemes below five years of maturity, hoping to help bring down bank lending rates. However, it retained the interest rates of social security schemes for girls and senior citizens.
Interest rates of all small saving schemes will be recalibrated on a quarterly basis from 1 April and will be notified on 15 March for the April-June quarter.
The 25 basis point (bps) spread that one-year, two-year and three-year term deposits, KVPs and five-year recurring deposits have over government securities with comparable tenure has been removed "to make them closer in interest rates to the similar instruments of the banking sector", the finance ministry said in a statement. A basis point is one-hundredth of a percentage point.
"The small savings interest rates are perceived to limit the banking sector's ability to lower deposit rates in response to the monetary policy of the Reserve Bank of India. This is expected to help the economy move to a lower overall interest rate regime eventually and thereby help all, particularly low-income and salaried classes," it said.
Interest rates on social security schemes such as Sukanya Samriddhi Yojana, the Senior Citizen Savings Scheme and the Monthly Income Scheme, which earn 75 bps, 100 bps and 25 bps, respectively, more than comparable government securities have been left untouched.
Similarly, the spread of 25 bps that long-term saving schemes such as the five-year term deposit, five-year National Saving Certificates (NSC) and Public Provident Fund (PPF) currently enjoy over government securities of comparable maturity will remain unchanged as these schemes are particularly relevant to the self-employed professional and salaried classes and are meant to encourage long-term savings. However, the compounding of interest of five-year NSC and KVPs will be done on an annual basis against the present practice of calculating twice a year.
The government will allow premature closure of PPF accounts in genuine cases, such as in cases of serious ailment and higher education of children. "However, this shall be permitted with a penalty of 1% reduction in interest payable on the whole deposit and only for the accounts having completed five years from the date of opening," the finance ministry said.
Suresh Sadagopan, founder of Ladder7 Financial Advisories, said this is a major change in the architecture of small saving schemes. "While NSC and PPF will become less attractive as their interest rates will vary every quarter, for senior citizens the monthly income scheme and the senior citizen savings scheme will remain attractive against bank fixed deposits as their interest rates have been kept unchanged. One needs to wait till the budget before deciding changing one's savings portfolio," he added.
The interest rates of small saving schemes are linked to the yields of government bonds. The move is expected to allow banks to pass on policy rate cuts by the central bank through lower lending rates. Banks blame high short-term interest rates on small savings schemes for the high cost of deposits, which prohibit them from passing on policy rate cuts to borrowers in a significant way.
While the Reserve Bank of India (RBI) has cut policy rates by 125 bps in the past year, banks have lowered lending rates only by 70 bps.
After RBI raised concern over limited transmission of its policy rate cuts in September last year, finance minister Arun Jaitley announced that the government will review interest rates on small savings schemes.
In arrangement with HT Syndication | MINT
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