Push for financial inclusion through the Jan Dhan Yojana and associate schemes has given average Indians access to retail financial products. But one piece is missing—a Pradhan Mantri Bachat Yojana, a government savings scheme
The middle-India push-back on the government’s plan to tax the Employees’ Provident Fund and reduce rates on small savings products tells us that despite frothing at the mouth against the government during the day, finally, when the dust settles, we love the role of the government as an asset manager. What do we want? Ideally, government-guaranteed returns with no risk. So why don’t we buy government securities (G-Secs) directly? Because of the way the intermediation (link between savers and investors) market is constructed. Maybe it is time for this to change. We’re ready for G-Secs going direct to the public. But first, the background.
The current form of market intermediation has evolved over centuries; banks aggregate retail savings and make the money available to borrowers, who could be other retail people, the government or private business. Your return on a bank deposit is a function of the lending rate the bank is able to get, its efficiency in reducing the cost of this intermediation and keeping a profit. Indian banks lend heavily to the government for a mix of reasons. Banks are mandated to invest 21.5% of their deposits in government securities under the Statutory Liquidity Ratio requirement, but ‘lazy banking’ (getting risk-free return from the government for small effort) ensures that banks average 6-7 percentage points more than the statutory requirement. The other big intermediation machine in India is the life insurance industry that converts trillions of rupees in small savings into fodder for government bonds. Remember the Insurance Act mandates that 25% of life insurance assets go into G-Secs.
We like our money to be secure and, thus, like the security of capital that banks and insurers give. But banks turn a 7.22% (annualised) 91-day treasury bill (T-bill) into a 6.5% deposit, or a 7.73% 10-year bond into a 7% 10-year deposit (SBI deposit rates). A traditional insurance plan turns a 7.73% 10-year bond into a return that is between 0.5% and 4% per annum.
Given the high cost of intermediation, isn’t it better to tap the G-Sec market directly? Deepak Shenoy, who writes a sharp blog, www.capitalmind.in, on all things market, likes the idea: “TBills often offer better returns than similar terms with banks. Also, for longer-term maturities like 30 years, there are no equivalent FDs (fixed deposits). You can buy G-Secs and get assured (taxable) cash flow for over 30 years, and the rates are way better than annuities that LIC (Life Insurance Corporation of India) or other insurers give. Plus, these are securities that are like gold—you can pledge them any time for cash and you get a very small haircut.”
The Reserve Bank of India has been trying to get retail investors to buy G-Secs without much success. The current intermediation model is based on 19th century technology of branch banking. The emergence of fintech, Aadhaar based e-KYC (know your customer) and 80% mobile phone density allows the government to reach households directly, removing high-cost middlemen. The push for financial inclusion through the Jan Dhan Yojana and associate schemes (disability cover, life cover, crop insurance, loans and pension) has given average Indians access to retail financial products. But one piece is missing—a Pradhan Mantri Bachat Yojana, a government savings scheme. This is what it could be. This is blue sky thinking, so do allow for some possibilities that may not exist today.
The product is a Government of India-guaranteed mass savings product that guarantees a reasonable and assured return. It is nothing but a retail sale of G-Secs. Investors will be able to buy G-Secs on any day for an offered tenure of between three months and 30 years. The interest rate could be slightly lower than for institutions to account for the cost of distribution and management. A trail-based commission model could prevent mis-selling. The product could be tax-free for the first two tax slabs and taxable for the 30% slab. Anybody with an Aadhaar can buy. The options could be both income generation and corpus building. It could be sold through e-commerce sites, payments banks and small banks.
While we assume that most people will hold the securities to maturity, there is a clunky part to the product around an early exit. Imagine you are holding a 10-year G-Sec but need money in year 6. Or imagine that the bond you hold pays 8% and the current 10-year bond is selling for 12%, and you are smart enough to know the difference and act on it. The answer, of course, is the stock exchange, where you can buy and sell on the secondary market. But here’s the reality: the real retail guy is not going to transit to a secondary market system in bonds or stocks directly at a mass scale. So how will a premature exit work? If we can extend the logic that banks use to nick interest off your fixed deposit if you break it early and find a way to apportion exit charges for an early exit in a closed-end product, like a bond, then we’d have solved this problem. The US has such a product—TreasuryDirect, a self-service, Internet-based system, though exit is on the secondary market. At half-a-million retail accounts holding $20 billion, it’s only a tiny part of the overall US government debt.
We want the government as our asset manager, the government needs household savings. A mass retail market using fin-tech and understanding the reluctance of retail to go to the secondary market should solve this demand-supply problem.