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Wednesday, September 23, 2020

Crisis & safety net

In uncertain environment, EPFO must align itself with interest rates in broader economy, avoid risks.

By: Editorial | September 11, 2020 3:00:11 am
EPFO subscribers may have to brace themselves for an even lower interest rate this year.

In early March this year, the Employees’ Provident Fund Organisation (EPFO) had lowered the interest rate on provident fund savings for 2019-20 to a seven-year low of 8.5 per cent, down from 8.65 per cent the previous year. On Wednesday, the central board of trustees of the EPFO recommended paying the 8.5 per cent interest in a staggered manner due to “exceptional circumstances arising out of COVID-19”. According to the recommendation, which will now have to be approved by the Finance Ministry, EPFO subscribers will get 8.15 per cent interest for 2019-20 immediately, while the balance 0.35 per cent or around Rs 2,700 crore will be credited by the end of December, subject to the redemption of its units in exchange traded funds (ETFs). While in March, when the 8.5 per cent interest was announced, the estimates showed that it would leave a surplus of Rs 700 crore with the fund, the decision now to stagger the interest payment has been driven by the fund’s losses on its equity holdings. The collapse of the stock market in March owing to uncertainty over the state of the economy due to the spread of COVID-19 and the imposition of the national lockdown, dragged down the fund’s return on equity investments to (-) 8.3 per cent in 2019-20, from 14.7 per cent in the prior fiscal year.

EPFO subscribers may have to brace themselves for an even lower interest rate this year. While any reduction in the interest rate is bound to be unpopular with its over 6 crore subscribers, this will be the right decision. With the monetary policy committee of the Reserve Bank of India cutting the benchmark repo rate sharply over the past few months, and the central bank actively intervening in the bond market in order to stimulate economic activity, there has been a sharp reduction in both short- and long-term rates in the broader economy. In fact, the 10-year G-sec yield now stands at 6.05 per cent. Add to that the possibility of continuing stock market volatility due to lingering uncertainty, and proposing a higher interest rate that is not in sync with the conditions in the broader economy will be unsustainable. In fact, in the past too, the finance ministry is reported to have raised questions over the organisation recommending a high interest rate.

The EPFO and its subscribers must be mindful that promises of returns higher than yields on government securities will be met through riskier investments such as corporate debt and equities. In an uncertain economic environment, for an organisation that provides social security for India’s formal workforce, the risks of such exposures can hardly be emphasised enough. In the past, too, the EPFO has been questioned over its exposure to risky entities such as the IL&FS. The organisation thus must seek to minimise the risk for its subscribers, and align itself more closely with the overall interest rate scenario in the economy.

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