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 Interest
rates are of considerable interest to businesspersons. Hardly a
week goes by when some chamber of commerce or industry association
does not urge the Union government and the Reserve Bank of India
to bring down interest rates to spur investments for industrial
growth. Industrialists in this country-like their counterparts elsewhere-obviously
want to lower borrowing costs.
Yet, in the past, for many promoters, interest
rates had not mattered much simply because there was little or no
inclination on their part to repay term loans borrowed from financial
institutions or working capital loans obtained from commercial banks,
most of them in the public sector. Otherwise India's financial system
would not at present be creaking on account of the overload of more
than Rs 80,000 crore worth of non-performing assets-a euphemism
for loans not repaid.
Compared to developed countries, a developing
country like India would inevitably have relatively higher costs
of capital (represented by interest rates), which is scarce in relation
to labour (the costs being wage rates), which is available in plenty.
This logically results in local industry being at a competitive
disadvantage vis-à-vis businesses abroad.
Nevertheless, with inflation running at comparatively
low levels, almost all interest rates in India have eased steadily
and are currently at their lowest levels in nominal terms over the
last three decades.
Yet despite the 'soft' interest rate regime
of the RBI, investments do not appear to be picking up. If one compares
the April to December period in 2002 with the corresponding period
in 2001, sanctions and disbursements by all-India financial institutions
came down by roughly 50 per cent.
There is no indication that the investment
climate in the country has improved thereafter despite the regular
softening of interest rates. Why? Interest rates are only one among
the many factors that influence investments.
After the then Finance Minister Yashwant Sinha
pared officially administered interest rates on small savings schemes
in the Union budget for 2002-03, there was a big hue and cry from
sections of the middle class, especially senior citizens, who were
hurt by the fall in their interest earnings. The then Vice President
of the Bharatiya Janata Party, Sahib Singh Verma, publicly blamed
Sinha's low interest regime for having antagonised the middle class
after the party lost the municipal elections in Delhi.
Verma as Union Labour Minister has now gone
and cocked a snook at Jaswant Singh, Sinha's successor. The board
of trustees of the Employees' Provident Fund Organisation (EPFO)
had staunchly resisted a lowering of the interest rate on deposits
from a level of 9.5 per cent per annum to 8 per cent.
The EPFO currently has over 30 million industrial
workers as its members. Now even if it may have made good economic
sense to the Finance Ministry to cut the interest rate on such deposits,
Verma did not wish to displease trade unions.
As much as 80 per cent of the total funds with
the EPFO-a staggering sum of over Rs 1,20,000 crore or more than
one-twentieth of India's gross domestic product-are currently parked
in a special deposit scheme of the government that is not backed
by securities and which yields an annual rate of return of around
8 per cent. The difference of 1.5 per cent between what is earned
by the EPFO and what is paid out to workers clearly means that this
is a bubble that could burst at any time in the future.
On May 31, Verma announced a lowering of the
EPF interest rate by 0.5 per cent to 9 per cent for the current
financial year. But there was a catch. In order to ensure that the
government appeared worker-friendly, it was decided that a bonus
of 0.5 per cent would be paid-to celebrate the golden jubilee of
the EPFO. This, in effect, meant that the annual rate of interest
would remain at 9.5 per cent this fiscal year.
The government's dilemma is evident. You cannot
hope to cut interest rates to please the well-heeled and also hope
to keep blue-collar workers and pensioners happy.
The author is Director, School
of Convergence at IMI, New Delhi, and a journalist.
He can be contacted at paranjoy@yahoo.com
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