People's Democracy

THE Finance Minister in his budget speech (2001-02) had noted that since 1998, the difference between the interest rates on contractual savings and the consumer price inflation had risen to 6 to 8 per cent, as against the 3 per cent difference between 1980 and 1998. Based on this (mis) reading of the situation, he reduced the interest rate from 11 to 9.5 per cent and proposed to appoint an Expert panel.

The 10 member Expert panel, headed by Dr Y V Reddy, Dy. Governor, Reserve Bank of India, was appointed in April 2001 to review the existing system of administered interest rates on small savings schemes including public provident funds (PPF) and contractual savings schemes. The Committee has now presented its report to the finance minister. The report is yet another attack on the small savers, senior citizens and the subscribers to various Provident and Pensions Funds.

Despite tall claims, the decade long reforms agenda is stuck in the mud. The September 11 terrorist attacks on World Trade Centre and the America’s war in retaliation have added further grim dimensions to the country’s economic downturn.

In this situation, the employers’ lobbies stepped up the pressure on the government pleading for further reduction of interest rates.

Yashwant Sinha, finance minister, had already earned the wrath of small investors by lowering the administered rates of interest on small savings and Provident Funds----from 12 per cent to 11 per cent during 2000-01and further down to 9.5 per cent in the budget for 2001-02. He admitted that the present rates were, perhaps, the "lowest ever". Yet he declared that the government was in favour of low interest rate regime

The expert panel was required to devise an automatic system of adjusting the interest rate on savings to the rate of inflation. If the interest rate is automatically adjusted, then the government does not have to receive the flak every time the interest rate is reduced. This was the avowed objective of the government in setting in motion this exercise.

Now, the Reddy Committee has come out with its recommendations. It has prescribed `benchmarking’ of interest rates, dovetailing the interest rates on small savings instruments with the yield on government securities, of comparable maturity, traded in the secondary market.

The report terms the contractual savings as "high cost borrowings" and the government floated open market securities (bonds) as "low cost borrowings". Rightly so. The government succeeds in mopping up funds with low yield securities only because of the captive demand therefor, because of the existence of Statutory Liquidity Ratio (SLR) imposed on the banks. After noting this, the panel report prescribes a benchmarking of the interest rates on small savings to the market related rates of the "low cost borrowings" viz. the government securities.

The intent is clear – to reduce the cost to the government, by flattening out the interest rates on small savings. But, where is the logic to support such recourse?

The Committee has expressed concern that it is desirable that the small savers get "a positive real rate of return on their savings at a future date." Such a positive real rate of interest should have two components – one to compensate for the inflation as measured by the increases in the consumer price index; and the other as reward for making available the money to be used in the interest of the economy. The Committee considered the question of taking the inflation rate as a benchmark to determine the interest-rate; but abandoned the idea because of "the difficulties in measuring expected inflation". The Committee report itself records the fact that in the USA, and the UK, governments offer "inflation linked bonds, which provide a hedge against inflation." In this background, it was not difficult for the Committee to find a mechanism providing for a Consumer Price Index linked interest rate for small savings. But, the Committee report has deliberately opted for linking the interest rates with the government securities traded in the capital market.

The report has also envisaged a new tax regime for contractual savings, which will result in revenue gain for the government of India at the expense of the small savers/investors.

The Committee has devoted considerable attention on the issue of tax incentives on small savings. The Committee assumes that "small savers are, by and large not tax payers", and argues that the tax incentives discriminate between tax paying and non-tax paying savers. The Committee also makes a bald statement that `there is no strong evidence to support that tax incentives facilitate increased financial savings at macro-level." On this assumption, the Committee report has recommended a whole range of withdrawals of tax concessions; it has also imposed tax on certain components, which at present do not attract tax.

The Committee had totally done away with tax deductions under Section 80L and tax exemptions under Section 10 of the Income Tax Act, for all savers. It has retained the provision of tax rebate under Section 88 of the Income Tax Act, which provides 20 per cent rebate on investments up to a maximum of Rs 60000, that too only in respect of long term savings (those exceeding 6 years of maturity period). The long term financial saving, which comprises the Public Provident Fund (PPF), is now exempted on all three stages of savings, viz, contribution, accumulation (interest earned), and withdrawals. The Committee has proposed that tax exemption be limited only to contribution and accumulation and withdrawals be taxed at the rate of 10 per cent on maturity and on premature withdrawals on account of death. And in other cases of premature withdrawals, a 20 per cent tax is to be imposed.

Though the Committee has made this recommendation in respect of the PPF, it has also suggested that the same should be extended to the GPF and the EPF. Another aspect of the report, which is a matter of serious concern for the workers, is that these recommendations are in tune with the pension fund reforms envisaged by the government of India, which are aimed at curtailing even the existing social security benefits.

In yet another departure from the existing practice, the Committee had recommended to ‘rationalise small savings schemes to cater only to the needs of genuine small savers like individuals including the Hindu Undivided Families (HUF). The Committee has not even retained the possible exception suggested by the R V Gupta Committee on Small Savings (1998) to permit "investment of surplus funds of farmers’/labour cooperatives as well as self-help groups."

A large majority of small savers in rural and semi urban areas in India depend on Post Office and deposit their money in Post Office Savings Accounts, Time Deposits and Recurring Deposits. Even to these economically weaker sections of the small savers, the Committee has meted out rank injustice. While the 3.5 per cent interest rate on PO Savings Bank (POSB) Accounts will be continued as it is, the interest rates on other Post Office (Time & Recurring) Deposits have also been benchmarked to market related rates of government securities. The Committee recommends continuation of 3.5 per cent interest on POSB accounts only as long as inflation rate rules above 3.5 per cent.

Even here, the Reddy Committee has not cared to pay heed to the R V Gupta Committee on Small Savings (1998), which had recommended benchmarking of the rate of interests of Post Office Deposits to the corresponding rates of commercial bank deposits, with a positive margin of 0.5 per cent.

The Committee’s recommendation for transfer of the entire net proceeds from small savings, collected after March 31, 2002, to the State governments, may sound beneficial. But, under the guise of transferring 100 per cent of the small savings collections, net of repayments and expenses, to the state governments, the report has imposed short-run repayment burdens on the states. The report requires the states to prepay their liabilities to the central government, ahead of the schedule, utilising this 100 per cent transfer of net proceeds and also to repay the outstanding small saving liabilities, as of March 2002, apportioned in accordance with their respective share. The state governments have so far benefited by a 25-year repayment schedule inclusive of a 5-year moratorium. This will now be reduced to the maturity period of the small savings instruments.

The Reddy Committee report will only be advantageous to the central government as the loss of capital receipts, on account of 100 per cent transfer of net proceeds to the state governments, will be offset by revenue gain arising out of withdrawal of tax incentives. Further, as tax treatment would continue to be favourable for these schemes similar to PPF more mobilisations of resources under GPF and EPF will help the central government.

The Reddy Committee report has ominous portents to the large community of small savers. It will also hurt the long term interests of the economy as mobilisation of small savings will also get affected. The Reddy Committee report itself admits this fact. It admits that as a result of the changes proposed, "in the transition period there may be a likelihood of a fall in mobilisation of small saving scheme.

In the era of liberalisation, the drive is always towards heaping burdens on the poor and the workers and conferring ‘incentives’ on the rich. The Reddy panel report is yet another device in the same pursuit and deserves outright condemnation.