Market borrowings are playing an increasing role in financing the fiscal deficit, while that of small savings has been on the decline. This can have implications on the fiscal deficit.

Small savings form a significant part of internal liabilities of the central government, and net accretions through small savings schemes finance a part of the fiscal deficit. But, as a share of total liabilities, and as a share of financing fiscal deficit, the significance of small savings has been dwindling. The burden of financing the fiscal deficit is, therefore, falling more and more upon market loans.

This tendency has some implications for the cost of financing the deficit. In an extreme situation, net market loans may have to be even higher than the fiscal deficit, as in 2007-08 when net market loans amounted to Rs.1.31 lakh crore against the fiscal deficit of Rs. 1.27 lakh crore. The trend during the current fiscal portends the possibility of such a risk.

Strictly speaking, whether a particular order of increase in fiscal deficit is financed through market loans or small savings, it does not matter for the level of fiscal deficit, because it represents only a substitution of one method of borrowing by another. The real fiscal risk arises out of how the government is going to handle the shift to market loans.

The total internal liabilities of the central government has increased from Rs.24.35 lakh crore in 2006-07 to an estimated Rs. 41.82 lakh crore in 2011-12. The liabilities on account of small savings and provident funds increased from Rs. 5.39 lakh crore to only Rs. 6.09 lakh crore. As a result, the share of small savings component as percentage of total internal liabilities came down from 22.1 per cent to 14.4 per cent.


The Government comes into possession of small savings as contractual savings of the public, which are not part of the Consolidated Fund of India.

Interest rates on small savings tend to remain somewhat sticky for two reasons. Small savings products such as PPF and certificates are not market-related, and hence are not akin to market borrowings of the government. Small savings deposits are similar to bank deposits, but these rates are not set by commercial considerations.

Since these are government liabilities, and the rates are not volatile, they are both free of credit risk and market risk.

The small savings products serve more the purpose of a social safety net, where general social security system is still weak. In the recent past, downward-sticky small savings rates have become much more regressive, taxing middle class wealth to finance the widening fiscal deficit.

The Way Forward

While the Finance Ministry is poised to accept the Ms Shyamala Gopinath Committee's recommendations, these should be implemented in such a manner that (i) as far as possible, fresh accretions to small savings are at least sufficient to cover the repayment obligations arising year after year; (ii) the burden on market loans year after year should be allowed to increase in a gradual manner without causing disruptions in the market and market interest rates.

While the Gopinath committee had recommended discontinuation of Kisan Vikas Patra, it should be noted that KVP constitutes a chunk of about 25.6 per cent of small savings liabilities. The National Savings Certificates, too, account for a major share. The Committee had proposed increase in the ceiling on annual subscriptions to Public Provident Fund (PPF) from Rs 70,000 to Rs 1 lakh.

This would be a welcome step, since PPF accounts for a small 5.1 per cent of liabilities. It represents true long-term savings of the community and has social security value.

The key question relates to deposits offered on post office savings. Such deposits account for about 60 per cent of total small savings liabilities, but the rates offered on these deposits remained sticky since 2003.

Ideally, since these deposits are akin to bank deposits, with an additional feature of being both credit risk-free and market risk-free, it would be best to let these rates move in accordance with some benchmark bank deposit rate, such as the rate offered by the State Bank of India, or have the rate indexed to a weighted average of deposit rates of comparable maturity of some three to five major public sector banks. This will avoid any serious fluctuations in accretions through these deposits.

(The author is Director, EPW Research Foundation. The views are personal.

(This article was published on October 13, 2011)
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