Interest rate on PPF cut to 8.1% from 8.7%

Move creates environment for rate cut by RBI

The government on Friday slashed the interest rates on all small savings schemes, including Public Provident Fund, by 60 basis points, and Kisan Vikas Patra, by 90 basis points, to create conducive environment for the Reserve Bank of India to ease monetary policy rates further, and help banks transmit rate cuts to customers.

The new interest rates for 12 small savings schemes, including term deposits of one to five years' maturity, five-year recurring deposit, five-year Senior Citizen Savings Scheme, five-year Monthly Income Scheme, Sukanya Samriddhi Account Scheme, and National Savings Certificate will be for the period of April 1, 2016 to June 30, 2016.

As announced by the finance ministry in February, this is different from previous years where the interest rates of such schemes were reset once a year. Now onwards, the rates will be reset every quarter, to be better linked with government securities of comparable maturity.

"This is a move to align small savings schemes to market rates and will enable banks to cut deposit rates. The government has given a signal. It is now up to the banks to act," said Shaktikanta Das, economic affairs secretary.

Executives of public sector banks said the announcement creates space for banks to reduce interest rates on deposits further. However, the actual effect may be visible only in the next financial year since business targets for current financial year (closing on March 31, 2015) are a priority for now.

According to RBI, the interest rates on one-year term deposits have come down by about 85-100 basis points in past 12 months.

The interest rates on these deposits are 7-7.90 per cent (till March 11, 2016) as against 8-8.75 per cent around the same time last year.

S K Ghosh, chief economic advisor, State Bank of India said the government's decision, especially the substantial cut in rates for PPF and KVP, will nudge banks to move for lower interest rate regime. This would also create room for RBI to reduce the key policy rate (repo rate) by equivalent magnitude.

D K Joshi, chief economist of CRISIL, said the decision reduces rigidities in interest rate regime in India.

Finance Minister Arun Jaitley had announced on September 29, 2015, that the Centre would review small savings schemes to enable transmission of the central bank's rate cut by banks. It was the same day when RBI Governor Raghuram Rajan had cut interest rate by 50 basis points (bps) from 7.25 per cent to 6.75 per cent, bringing it to a total cut of 125 basis points for the calendar year 2015.