Lowering Inflation still makes PPF attractive

Written on Monday, March 28, 2016
By Mr. Anil Chopra - Group CEO & Director, Bajaj Capital Ltd.

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There has been a lot of hue and cry on announcement of reduction in interest rates on some of the small savings schemes with effect from April 1, 2016. All of that noise is not justified. Let's understand why.

While evaluating attractiveness of any fixed return investment option one should consider the “real rate of interest” and not the “absolute rate of interest”. Real rate of interest is actual rate of interest minus inflation.

To explain the above point with the help of an example, 8% rate of interest is more attractive than 9% rate of interest if inflation in first case is 5% and in second case is 7%. In first case, the real rate of interest will be 3% (8-5) as compared to 2% in the second case (9-7).

Keeping the above logic in mind, interest rates on various savings schemes are still very attractive even after proposed reduction from April 1, 2016.

Our policy makers should be applauded for reducing the inflation from 8-10% range one year ago to 5-6% range now. In fact, in our opinion, Government has acted late in reducing the interest rates and the same should have been done few months ago. Please note reduction in interest rates is good sign for economic growth.

Since banks are more flexible and have autonomy to change the interest rates as and when they deem fit, most banks have already reduced interest rates on fixed deposits few months ago.

The revised rate of 8.1% pa on PPF is still very attractive as the interest on PPF is completely tax-free. 8.1% is still much higher than what was offered by tax-free bonds earlier in the month by long-term infrastructure finance PSUs like HUDCO, NABARD, IRFC. The average rate of interest offered on these tax-free bonds was 7.35% only.

In our opinion, interest rates should not have been reduced on two specific schemes, namely, 5 Year Senior Citizens Savings Scheme and Sukanya Samriddhi Yojna. Both these schemes are for the benefit of special sections of the society i.e. Senior Citizens and Young Girls.

We must remember that it has now been clarified that these rates are subject to revision at quarterly intervals. Hence, these revised rates are only valid up to June 30, 2016 and depending upon the level of inflation, the rates may be further reduced downwards or upwards or they may be kept unchanged also. This is a new reality and we have to learn to live with it rather than to complain about the same. After all nobody complains when the interest rates are raised.

 

INTEREST RATE ON SMALL SAVING SCHEMES

Instruments

Existing Rate (April 1, 2015 to March 31, 2016)

New Rate (April 1, 2016 to June 30, 2016)

Savings Deposit

4.00%

4.00%

1-Year Time Deposit

8.40%

7.10%

2-Year Time Deposit

8.40%

7.20%

3-Year Time Deposit

8.40%

7.40%

5-Year Time Deposit

8.50%

7.90%

5-Year Recurring Deposit

8.40%

7.40%

5-Year Senior Citizen Saving Scheme

9.30%

8.60%

5-Year Monthly Income Account Scheme

8.40%

7.80%

5-Year National Saving Certificate

8.50%

8.10%

Public Provident Fund Scheme

8.70%

8.10%

Kisan Vikas Patra

8.70%

7.80%

Sukanya Samriddhi Account Scheme

9.20%

8.60%

Source: Finance Ministry

 

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