SMALL  SAVINGS  INTEREST  RATE  CUT: LET’S  MAKE  IT  LARGE

This was in the offing for a long time now. Prodded by RBI and implored by banks for some years now, the current central government has given in. Small savings schemes, most preferred investment choice of the Indian middle class have lost some sheen with slashing of interest rates on PPF, KVP and NSC, post office monthly income and fixed deposits with effect from 1^st April 2016. Interest rates on Public Provident fund have been reduced to 8.1%, KVP and NSC to 7.8% and 8.1% respectively.    

If you want interest rates to go down and home & car loans to become more affordable then take this interest rate cut with a pinch of salt. This is nothing but logic. PPF, KVP, NSC and post office interest rates all above 8% made deposit rates offered by banks in competitive and unrealistic in the current global scenario. This has worked as a double edged sword for the banks especially PSU. Lending rates cannot be reduced as deposit rates need to hover around small savings rate to mobilize the much needed savings deposits. And with higher lending rates, contribution of corporate to the total loan book of banks has diminished as they have started leaning towards bond and CP market for long and short term funds respectively.

The vicious cycle of interest rates which makes the cost of capital high or low in an economy starts with banks. Forcing banks to work on lower margins will reduce their profitability (NII & NIMs) and stability in the long run. Market linked interest rates on small saving schemes reviewed quarterly is the right step towards lower cost of capital and higher productivity. The NDA government has shown the courage to go against populism and favor the much needed financial reforms. Though some so called socialist pundits have already predicted 2018 general elections, they should not forget that fortune favors the brave.