The government has announced that the interest rates on all the small savings schemes will remain unchanged for the October-December quarter

The government has announced that the interest rates on all the small savings schemes like Public Provident Fund (PPF), Kisan Vikas Patra (KVP) and National Savings Certificate will remain unchanged for the October-December quarter of the financial year 2017-18.

In its previous revision, which was for the July-September quarter, the government had slashed the interest rates on small savings schemes, except the post office savings accounts, by 10 basis points. One basis point is one-hundredth of a percentage point.

Accordingly, during the quarter, the investments in PPF schemes will fetch an interest rate of 7.8% per annum, a 5-year National Savings Certificate will return 7.8%, the KVP investments would now double in roughly 10 years (they will mature in 115 months) as they will now give a return of 7.5% per annum.

The scheme for girl child savings, Sukanya Samriddhi Account Scheme, and 5-year Senior Citizens Savings Scheme will provide 8.3% returns. The 5-year Monthly Income Scheme will be 7.5%. Term deposits of 1-5 years will offer 6.8-7.6%. The 5-year recurring deposit will earn 7.1% interest.

How the small saving rates are revised

In 2011, returns on small savings instruments were linked to the market, and were adjusted annually. This was done so that the interest rate on these could be pegged to the average government securities yield with similar maturity in the preceding year.

Since April 2016, interest rates of all small saving schemes have been linked to government bond yields and are now calibrated on a quarterly basis. This change was done after a substantial cut in policy rates by the Reserve Bank of India (RBI) in the year preceding this change.

A 16 February 2016 press release by the Ministry of Finance, Government of India, said that the small savings interest rates are perceived to limit the banking sector’s ability to lower deposit rates in response to the monetary policy of the RBI.

The reduction was hence aimed at bringing these products closer to similar instruments in the banking sector such as fixed and recurring deposits.

How much have the rates come down?

Over the last couple of years, interest rates of most small savings schemes have witnessed a decline of about 1 percentage point. For instance, the interest rate on Senior Citizen Savings Scheme has come down from 9.3% in 2015-16 to 8.3% now. Similarly, before the quarterly revisions started, the interest rate on PPF was 8.7%, which is at 7.8% now, a decline of 90 basis points.

Even a 1 percentage point decrease in interest rates can make a huge difference over the long term. For instance, if 2 years back you had started investing Rs1.5 lakh in PPF every year for 15 years, when the rate of returns was 8.7% per annum, you would have calculated that your corpus would have been Rs46.76 lakh at the end of 15 years.

However, a 1% percentage point decrease in interest rate after couple of years would reduce your corpus by about Rs3.42 lakh, or 7.31% in total over 15 years period. At the same time, it is important to note that these are absolute returns.

As the small savings rates are revised according to changing interest rate in the banking system, which is decided by the RBI keeping into consideration the inflation in the country, the real returns are largely in line with the earlier returns when inflation was high.

However, before you make a decision on a product to invest in, compare it with the other investment avenues. Look at the returns that they generate but at the same time look at other parameters, too, such as taxation and liquidity. Some of the small saving schemes still fit in the portfolio of many individuals because the returns generated from them are tax free.