The last time interest rates on Small Savings Schemes (SSS: more popularly known as Post Office Schemes) were revised was in the April-June 2020 quarter, notified on 31 March 2020. The revision in rates was obviously downwards.
That was when we were in the grip of the Covid pandemic. The Reserve Bank of India cut interest rates significantly and infused a lot of liquidity into the banking system to shore up the sagging economy. Thereafter, in the secondary market for Government bonds, yield levels (interest rates), which are the reference rates for Small Savings Schemes, dipped significantly.
In spite of that, SSS rates were maintained at attractive levels. Sometimes, we hear noises that the subsequent quarter’s rates may be revised downwards, but in every quarter after June 2020, the rates have remained unchanged.
There was some drama last year when interest rates on Small Savings Schemes were reduced drastically through a notification from the Government, on 31 March 2021. The National Savings Certificate rate was apparently reduced from 6.8% to 5.9%, Monthly Income Scheme was reduced from 6.6% to 5.7%, and so on. But the very next day, the order was withdrawn and the erstwhile rates were maintained.
How are rates decided?
Interest rates on small savings schemes are reviewed by the Government every quarter, with reference to traded yield levels (interest rates) of Government Securities in the secondary market. There are set formulae for mark-ups over the traded levels of Government bonds. The rationale for linking it to G-Sec yields in the secondary market is that it is in line with interest rate movements. G-Sec yield movements reflect the actual and anticipated events in the economy pertaining to interest rates.
As an example of a mark-up, the spread on the Senior Citizens Savings Scheme will be 1% over comparable-maturity G-Secs. To clarify the mark-up, let us say the benchmark G-Sec rate is X% and the mark-up as per formula is Y%. Hence the rate should be X% + Y%. However, if the rate is higher, say X% plus Y% plus Z%, then Z represents the generosity of the Government for the benefit of citizens.
This is what has been happening. Post June 2020, though G-Sec yields had dipped, SSS rates were maintained. In other words, there has been a significant element of that “Z%”.
Examples of benchmark yields and actual rates
For the Senior Citizens Savings Scheme, the average G-Sec yield of corresponding maturity, i.e., 5 years, is 6.1% from December 2021 to February 2022. With a mark-up spread of 1 percent point, the rate would be 7.1%. For the quarter April-June 2022, where the reference benchmark is the average of December 2021-February 2022, the rate has been maintained at 7.4%. Hence, there is an additional spread — the Z referred above — of 0.30 percentage points.
Similarly, for the National Savings Certificate VIII Issue, there is an additional spread or Z of 0.31 percent points for the April-June 2022 period.
Since the initial phase of the pandemic, when the RBI cut rates and G-Sec yields went down, things have turned around. G-Sec yields in the secondary market have moved up. There are various reasons for this: the market is apprehending rate hikes by the RBI, inflation is a concern, interest rates are looking upwards globally, there are big government borrowings, and so on.
The implication is that the extra spread (the Z component) was even higher earlier, when G-Sec yields were even lower. As an example, in the April-June 2021 quarter, for the Senior Citizens Savings Scheme, the extra spread was 0.89 percentage points against the 0.30 percentage points now. For the NSC VIII Issue, the Z component was 0.92 percent points in April-June 2021, against the 0.31 percent points mentioned earlier.
Can we lock the rates?
Yes and no. In certain investments, such as the Public Provident Fund (PPF), when the rate is revised downward, it is on the entire amount, including your earlier deposits. Hence there is no locking in here.
In contrast, there are certain contractual return avenues e.g. National Savings Certificates (NSC), Kisan Vikas Patra (KVP), Term Deposits, etc. where you can lock in the current rates. As and when rates are revised downward, only new investments will be at the lower rates.
The Government has allowed higher interest rates rather than the formula rate as a social good. In the interest rate down-cycle, even with a high additional spread (Z%), rates have been maintained since mid-2020. Now that the RBI is about to hike interest rates and the cycle is about to turn, while nobody knows for sure, it is likely that SSS rates will be maintained and not raised. The generosity cuts both ways.SSS rates are not expected to move up in the near future as there is a "generosity component" - the Z mentioned earlier. However, if interest rates were to go up significantly in future so that the Z becomes zero or negative, SSS rates, too, may inch upwards. Only time can tell.