Rate cuts and rising inflation

Suresh Krishnamurthy

THE moment there is a call for lowering the interest rates offered on the small-savings programme of the Government, there is an opposing call from the savers' fraternity on why such a cut is unjustified in the context of the prevailing high rate of inflation.

The rate of inflation measured using the wholesale price index hovered around the 8 per cent figure. In short, compared to January 2000 when interest rates were cut on small-savings schemes and now, the rate of inflation has actually climbed up. If this is to be the only critical factor, it virtually rules out any justification for a cut in the interest rate on small-savings schemes. If anything, this is a sign that the interest rate cut effected in January 2000 has to be reversed.

However, it is not proper or fair to look at the interest rate on small-savings through the prism of inflation alone. From a macro-perspective, for the Government to continue to remain a high-cost borrower than almost all other major borrowers in the country, is unreasonable. In this context, the savers' fraternity would be well-served if they focus their attention on the Reserve Bank of India's moves. The RBI is now steeling itself to put through another rate cut in the near future which, if the present rate of inflation persists, would ensure that every investor in bank deposits would be earning virtually nothing when adjusted for inflation.

In fact, there is a dire need for focussing more on the deposit rates prevailing in the general economy rather than on the rates offered under the various programmes of small-savings schemes. The borrowing programmes of banks, FIs and corporates mobilise the largest proportion of the household savings. And, the RBI, through its fiat, has been bringing down the interest rates on these various options. If the savers' fraternity believes that this course is justified under the prevailing inflation scenario, it should resist from agitating against any cut in the rates offered under the small-savings schemes.

The Government on its part should clearly spell out a time-bound plan to reposition the interest rates on the small-savings scheme in line with `zero default risk' profile. A link with, say, the prime lending rate of the SBI should, perhaps, be explored. They should perhaps completely eliminate the tax savings and incentives on all instruments barring the Public Provident Fund. Anyhow, a transparent and clearly spelt plan is the need of the hour.