Small saving schemes account for 20.9% of government borrowing in FY18

Centre took Rs 1,002 bn from here in 2017-18, sharply up from Rs 904 bn a year before and Rs 123.6 bn in FY14

There has been a sharp rise in government borrowing from small saving schemes in the past five years; also, the contribution of market borrowing was a 17-year low in 2017-18.

According to data from the Reserve Bank of India (RBI), small savings schemes such as post office deposits, National Savings Certificate (NSC), and Kisan Vikas Patras (KVP) accounted for a  little over a fifth (20.9 per cent) of all central government borrowing in FY18, up from 17.2 per cent a year before and 2.4 per cent in FY14. This is the highest contribution from small savings in 19 years (see chart).

The share from here in total government borrowing has been largely growing at the expense of the bond market (market borrowing); the latter’s share declined to 72.8 per cent in FY18, from 94.2 per cent in FY14. This, analysts say, has kept a lid on bond yields on the benchmark interest rate in the economy. 

“By shifting its borrowing to small savings, the government shows lower supply of government securities in the market, preventing yields from rising. This, in turn, improves the market sentiment, as higher yields are bad news for capital markets, including equity,” says Dhananjay Sinha, head of research at Emkay Global Financial Services.  

Source: Reserve Bank of India

In all, the government borrowed Rs 1,001.6 billion through small savings in the past financial year, up from Rs 903.8 billion in FY17 and Rs 123.6 billion during FY14. In the same period, annual borrowing from the (bond) market declined by 27 per cent, from Rs 4,756 billion in FY14 to Rs 3,482 billion. Total government borrowing during the period was down 5.3 per cent, to Rs 4,782 billion from Rs 5,050 billion. 

The period also saw a jump in government borrowing from the provident fund, from Rs 97.5 billion in FY14 to Rs 140 billion in FY18.

“Such a shift to non-market instruments suggests the government is actively trying to manage the interest rate in the economy. This weakens the power of the bond market to act as a signalling mechanism or lead indicator for the broader economy,” says an analyst. 

The interest rate on small savings schemes such as post office deposits and KVP are fixed by the government every quarter. In contrast, the yields (or interest rate) on government bonds change daily, depending on demand-supply for these in the secondary market. 

The yield (or interest rate) on the 10-year government bond has declined steadily in the past four years, from a high of 8.8 per cent in FY14 to record low of 6.2 per cent in early 2016. Yields are up by nearly 115 basis points over the past 12 months, in line with a global hardening of rates and a rise in the Centre’s fiscal deficit.

Analysts say the lower bond yields also have indirect benefits for the government. “Lower yields help public sector banks (PSBs) book profits on their bond portfolio. This allows PSBs to give higher dividends to the government, besides reducing their requirement for fresh equity infusion from the former,” says Sinha. There is an inverse relation between bond prices and bond yields; less of the latter leads to a rally in bond prices. PSBs are the largest holders of government bonds, collectively having nearly half of this market.

On the downside, borrowing from small savings and the provident fund is more expensive than market borrowing. “Bond markets are volatile but the interest rates are still lower than what the government pays on small savings and PF deposits. This is an expensive way to manage the interest rate and sentiment in the capital markets,” says G Chokkalingam, managing director at Equinomics Research & Advisory Services. 

For example, five-year NSCs and the public provident fund offer 7.6 per cent interest, compared to current bond yields of around 7.4 per cent.