Illusion and reality

The Union government8217;s determination to bring down interest rates is admirable and rates have fallen up to a point. But it is hard to comprehend some of the government8217;s methods. What does it hope to achieve by ordering down interest rates on the Employees8217; Provident Fund, a long-term retirement fund for millions of workers and white collar employees in the organised sector? As a signal, it has made no impression on the market. On the other hand, it alienates millions who regard the EPF as an inflation-proof pension fund. That it follows rate cuts in government savings schemes, like post office schemes, and comes at a time when inflation has accelerated makes it especially unpopular. It is also likely to be construed as undue interference with workers/employees8217; benefits. The central board of trustees of the EPF has been under pressure for more than a year to lower its interest rate by one percentage point in keeping with reductions in the general provident fund and the public provident fund.

However, the board was not persuaded by the government8217;s logic. Because the EPF is self-administered and uses its own resources to pay interest, it was decided this April to maintain the rate at 12 per cent for the current year. The finance ministry appears to have acquiesced albeit reluctantly. For the government to suddenly overrule the board of trustees at the end of June requires strong justification. None has been forthcoming. Instead, there have been specious comparisons with government-administered schemes and unsubstantiated claims about the impact of EPF interest rates on interest rates in the market. It could be that the government had come to the conclusion that the trustees were being imprudent. More probably the government desperately needed to send the market yet another signal. Certainly, the move coincides with evidence that interest rates have begun to inch up.

Something needs to be done. Messing round with schemes like the EPF is not the answer. It merely gives the illusion that the brakes are being applied. The reasons for the hardening of interest rates lie elsewhere as the government well knows. One is the surge in the inflation rate fuelled mainly by the rise in the administered prices of fuel. The wholesale price index was just over two per cent in February, rose over 6 per cent in May and at 6.28 per cent today is fractionally below the bank rate announced by the RBI in April. That alone exerts considerable pressure on interest rates. Another contributory factor is the RBI8217;s exchange rate policy which, though well justified, sucks out liquidity from the market. By general agreement, it is the government8217;s massive borrowing programme which is the most problematic factor. One side of the picture shows a government with a seemingly insatiable appetite for funds and a market grown weary of government paper. On the other is industry emerging out of a longrecession and counting on cheap funds to finance what is predicted to be opportunities for rapid growth and expansion this year. Some hard thinking and careful management are required to deal with conflicting demands and the real factors pushing up interest rates.