Uday Kotak, president-designate of the Confederation Indian Industry (CII), has pushed for a cut in the small savings rate, currently ruling at around 7.7 per cent, on the ground that banks are fighting an unequal battle with the postal system for deposits.

“The rates of interest on small savings are higher than the yields on government securities,” Kotak said after the chamber submitted its recommendations to the Modi government that could feed into its 100-day agenda.

“Banks are competing today with small savings schemes. If banks have to raise deposits, there must be parity in interest rates,” said Uday Kotak, who is the executive chairman and managing director of Kotak Mahindra Bank.

“Interest rates on the small savings schemes should be linked to the RBI benchmark rate to ensure that banks are able to offer competitive rates. Only the interest rate on social welfare schemes like Sukanya Samriddhi Yojana should continue to be administered,” he added.

CII officials also said the interest rates on small savings schemes should be linked to the RBI repo rate at 6 per cent currently rather than the 10-year bonds where the yield is hovering at just under 7 per cent.

Seductive logic

On the face of it, Kotak may have a point. Growth in aggregate bank deposits has slumped to 6.2 per cent in 2018-19 while net small savings, in contrast, have risen by a very sharp 43.6 per cent.

But any move to cut small savings rate could spark outrage among small savers who have very few risk-free investment options to stay ahead of inflation.

The problem with Kotak’s argument is that gross small savings — at a little under Rs 6 lakh crore — account for just 5.1 per cent of the total bank deposits, which crossed Rs 117 lakh crore in the year ended March. So, to label the postal system, which collects small savings for the government, as a major threat to the banking system overstates the extent of the competition.

It also fails to recognise that investors are subject to very rigid lock-in conditions in the case of small savings and it often is an extreme hassle to break a deposit at a post office. A bank depositor, however, can cash out his deposit at the click of a mouse.

“There is one consideration we must not lose sight of. The Centre has been relying on the collections from small savings to meet a part of the fiscal deficit. This has helped the government to trim its market borrowings and cede some space to the private sector,” said SBI chief economist Soumya Kanti Ghosh.

Kotak admits this but argues that a cut in the small savings rate will also reduce the government’s interest costs on its borrowings — a sort of seductive argument that the government may find very compelling.

Naysayers

Not everyone agrees with Kotak’s proposition. Noted economist Pronab Sen said: “Small savings are all long-term deposits. The suggestion that it should be linked to the repo rate, which operates like an overnight interest rate, is shocking. If it is suggested that it should be 200 basis points above the repo rate, then it can be looked at.”

“It is wrong to blame small savings for the low growth in bank deposits. Data shows that the fall in bank deposits are more closely linked to a corresponding increase in mutual fund investments,” he added.

“We need policies that encourage savings. This is important as interest rate cuts do not necessarily translate into higher investments, which has been proved empirically time and again,” said N.R. Bhanumurthy of National Institute of Public Policy and Finance.

“Household savings are a major factor responsible for economic growth and lead to higher investment. If household savings go down, this will either pull investments down or increase the current account deficit,” he added.

According to senior post office executives, 5-year recurring deposits and the monthly income scheme are popular among small savers. Recurring deposits constitute over 30 per cent of the total small savings accounts, while the monthly income scheme (MIS) accounts for around 5 per cent.

Bengal’s share in net small savings collection was 13.15 per cent in 2017-18, second only to Maharashtra. “In the past, chit funds and pyramid schemes had flourished in Bengal. A cut in the small savings rate will encourage poor households to turn to these risky alternatives,” said a postal department officer in Calcutta.