India is a vibrant and rapidly growing economy which thrives on the steady flow of capital. Household savings form a critical pillar of this capital formation process, accounting for nearly 18 per cent of the nation’s GDP and close to 60 per cent of total gross savings. These savings reinforce investment in productive sectors, driving growth, employment, and development.

Bank deposits remain the preferred choice, comprising over 40 per cent of household financial savings. Other important instruments are cash holdings, shares and debentures, life insurance, provident and pension funds, and small savings.

The interest rates on these instruments partially influence saving behaviours, affect the government’s fiscal strategy, and ultimately shape the country’s economic outlook. In this context, managing interest rates on small savings schemes requires careful balancing to ensure sustainable growth and fiscal prudence.

Small savings schemes, often referred to as postal deposits, have gained significant traction in recent years. Their share in household financial savings has increased from 0.7 per cent in 2013-14 to about 9 per cent today. As of March 2024, the outstanding balances in small savings reached around ₹18.7 trillion, growing at a compound annual growth rate (CAGR) of about 16 per cent since March 2019.

The extensive reach of these products, offered through approximately 1.65 lakh post offices as well as public and select private banks acting as government agents, contributes to their continued relevance. Despite the emergence of new-age high-yield financial products, traditional avenues of savings — small savings and bank deposits — remain popular due to their simplicity and accessibility, and promote disciplined savings, including for those at the lower end of the socio-economic pyramid, amid global uncertainty and volatile markets.

Recently, the interest rates across different savings instruments have shown varied movements. Bank deposit rates have been moderated, influenced by the RBI’s repo rate cuts totalling 100 basis points between February and June 2025, besides the measures to boost liquidity and improve transmission. As a result, the weighted average term deposit rate on fresh deposits declined by about 27 basis points between January and April 2025. This downward trend in deposit rates is likely to continue due to surplus liquidity in the banking system.

Meanwhile, the government has maintained the employees’ provident fund (EPF) interest rate at 8.25 per cent for 2024-25, the same as the previous year. Provident and pension funds, which represent about 20 per cent of household financial savings, continue to serve as a major saving instrument, supported by formalisation efforts.

Interest rates on small savings schemes are reviewed quarterly by the government and are generally benchmarked against government securities yields of comparable maturities. Over the past six quarters, these rates have remained unchanged.

However, yields on government securities have declined sharply in the last year, especially in shorter tenors, due in part to the RBI’s rate cuts and increased liquidity. This softening in government securities yields could provide the government some room to consider lowering interest rates on certain small savings products soon.

Beyond the role in household savings, small savings are also an important source of financing for the government’s fiscal deficit. Currently, net small savings finance about 22 per cent of the fiscal deficit, up significantly from roughly 13 per cent in 2016-17. For the fiscal year 2025-26, net small savings are projected to moderate by 20 per cent to ₹3.4 trillion.

A sharp reduction in postal deposit rates could risk lowering fund mobilisation through small savings, potentially pushing the government to increase market borrowings. Hence, it is important for policymakers to strike a balance so that adjustments in small saving rates do not materially impact the attractiveness of the instrument and/or resource mobilisation for financing the fiscal deficit.

In sum, one feels that while there is merit in lowering interest rates on small savings in the coming days, that may happen in a measured and nuanced rather than in a knee-jerk fashion.

Siddhartha Sanyal is chief economist and head — research, Bandhan Bank. Sudarshan Bhattacharjee and Gaurav Mukherjee assisted the author in this article. Views expressed are personal.