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S. Vaidya Nathan

The Finance Minister, Mr Yashwant Sinha, and the RBI Governor, Dr Bimal Jalan... Architects of the lower interest rate regime.

THE policy framework is becoming so focussed on cutting interest rates without the necessary economic framework that it appears wholly dictated by the incessant demands of India Inc. Increasingly, things are becoming difficult for savers.

The need to cut the Government's interest burden is also a factor but the borrowings are increasing at such a pace that these cuts may at best help the Government keep the interest outgo stable.

The RBI and the Finance Minister have been helpfully aiding each other in this effort the last two years. This is, of course, preceded by a chorus of demands from the various chambers of commerce.

But there has been little effort by the two to reassure the community of savers that their real returns (nominal interest rate minus inflation) would be protected at 3-4 per cent at least.

It has become fashionable for those seeking rate cuts to point to the frequent rate cuts in the US. All this rate-cutting is done citing the extraordinarily low levels inflation in India. Butthis is not borne out. Select food prices may have remained stable. But rentals, healthcare and services, inflation has been rampant. The RBI cut the bank rate in October 2001, while announcing its Monetary and Credit Policy, and the Government has now paved the way for more rate cuts by reducing rates on administered small-saving schemes. For these schemes, interest rates have been linked with government paper of similar tenures.

These changes would be acceptable if the fiscal situation were good enough to assure investors that credible inflation rates would remain low for a long period. But the terrible state of the fisc and the Government's inability to address the issue is well known.

It is the sluggish state of India's and the world economy that is keeping the interest rates and inflation low, despite the terrible shape of the fisc. So there is no assurance for savers that at the reduced levels of interest rates, they would get a positive real rate of return over a long period.

It in this backdrop that the reduction in the rebate level offered under Section 88 of the Income Tax Act from 20 per cent to 10 per cent also has to be viewed. Quite clearly, the dice is loaded against savers. There is little option now but to cough up taxes and suffer lower interest rates.

The savers' lack of lobbying power has made it easy for the Government to cut interest rates sharply over the last three years. This would still be justifiable if the lower interest rates led to a higher level of investment and employment creation. But there is no evidence of that.

All that has been achieved by the interest rate cuts of the last three years is that India Inc has shown better profitability than it could have managed from core operations. The government's interest bill has also not risen as sharply as the level of borrowings. But the manner in which savers have been pushed into a corner could have adverse long-term implications.

There is an urgent need for policy-makers to ensure better balance between the interests of savers and those of India Inc and the Government. At present, the latter group — two more inefficient arms of the economy — appears to be getting considerable support from savers.

Before pursuing the policy of lower interest rates, the Government needs to convince itself and investors of the following aspects:

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