In a move that will hit the common man, the government today slashed interest rates payable on small savings including PPF and Kisan Vikas Patra (KVP) in a bid to align them closer to market rates.
As a part of its February 16 decision to revise interest rates on small savings every quarter, the interest rate on public provident fund (PPF) scheme will be cut to 8.1 percent for the period April 1 to June 30, from 8.7 percent, at present.
Similarly, the interest rate on KVP will be cut to 7.8 percent from 8.7 percent, according to a Finance Ministry order.
Among the other schemes, the government cut rates across savings scheme spectrum, barring post office, which was retained at 4 percent.
"On the basis of the decisions of the government, interest rates for small savings schemes are to be notified on quarterly basis," the order said announcing the rates for the first quarter of fiscal 2016-17.
The government had on February 16 announced moving small saving interest rates closer to market rates.
On that day, rates on short-term post office deposits was cut by 0.25 percent but long-term instruments such as MIS, PPF, senior citizen and girl child schemes were left untouched.
Rationale behind the move
"The government's decision to reset the rates is to align them with market rates," ICRA Economist Aditi Nayar told CNBC-TV18.
She added that the high savings rate on such instruments were becoming a hindrance for banks to cut their own deposit rates (such as those on FDs), which in turn keeps lending rates high -- as banks' cost of funds do not fall.
High lending rates deter the Reserve Bank of India to cut its own repo rate, on the grounds that its previous lending rates are yet to be transmitted into the banking system.
"This move will help improve transmission of RBI's rate cuts," Nayar said.
For instance, starting 2015, the Reserve Bank has cut its repo rate a total of 125 basis points, or 1.25 percent. But despite this, yields on the tradable g-sec have only fallen from a peak of 7.9 percent to 7.5 percent currently.
Nayar added that she expects the RBI to cut rates once in April and again post the monsoon, depending on how rainfall fares.
Previously, both RBI governor Raghuram Rajan and chief economic advisor Arvind Subramanian have made the case for the government to cut rates on small savings scheme, saying that the high savings instrument rates keep other market rates from falling.
Likely to be unpopular
The move, however, is likely to prove to be unpopular, considering that the ruling BJP party faces elections in five states this year, apart from crucially important UP next.
"Is the government trying to tell the common man that do not rely upon us? Already, the economy is struggling with a slowdown, rural distress and unseasonal rains," Congress spokesperson Randeep Surjewala told CNBC-TV18.
"This is a direct attack on the common man as these are the only savings instruments for them," he added. "Whether it is the MSP, cutting subsidies on food and fertilizers, taxing readymade garments or artificial jewelry, and now this, why is the pain of reform only being inflicted on the common man."
The Congress would pressure the government to roll back the decision, "as we did in the EPF move," he said.
The BJP, on the other hand, said that there was economic rationale behind the decision, and said the government had only merely moved from resetting the rate yearly to quarterly.
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