The recent market-based moves made by the government and the State Bank to contain an inevitable fall in the rates of return on national saving schemes may adversely impact on the stocks market.
“The stock market is expecting a larger cut in the rates of return on national saving schemes...if the rate-cut is not very deep the market gets depressed,” said a former chairman of Karachi Stock Exchange. Talking to Dawn he said that the bourses were optimistic that the current bullish trend would continue through next month—and an inevitable lowering of NSS rates is one of the things they are pinning their hopes on.
The Karachi Stock Exchange 100-share index reached an all time high of 3300 points last week—and market experts say the bourse can hardly keep up this trend.
“The market seems to have reached its peak,” said a present office bearer of KSE, adding that a larger cut in the NSS rates could delay the reversal of the bullish trend.
When told that efforts are being made to improve the yield on Pakistan Investment Bonds to contain an inevitable fall in the NSS rates he said it would have negative impact on the stock market.
The government has set a target of Rs25 billion for selling 10 -year PIBs at an auction due on June 28—and bankers say it is aimed at prompting big participation in the auction and thereby improve the yield.
The rate of return on most instruments of NSS is linked with PIBs and any improvement in its yield means the government will have to make a relatively small cut in the NSS rates of return.
The need to do so for the benefit of the saver can hardly be over-emphasized but more importantly this will let the fragile coalition government gain a strong political point.
That the tax-free federal budget for 2003-04 has already come under attack by leading economists who believe it does promise growth and makes little attempt to generate jobs provides some additional reason to the government to block a free fall of NSS rates.
Not only the ministry of finance has set a target of Rs25 billion for selling 10-year PIBs anticipating that it would raise the yield on the bonds the State Bank also has siphoned off Rs10 billion from inter-bank market through an open market operation to reinforce this signal.
Senior bankers say the central bank can make another market-based move later this month to help improve the yield on PIBs: it can set a lower than anticipated target for selling treasury bills auction. If that is done banks will rather be forced to use the year-end surplus liquidity in the long-term bonds.
What will be interesting to see is that how the IMF reacts to these and any other moves made by the government and the State Bank to contain the fall in the NSS rates. Very strong chances are that the Fund will react because keeping the NSS rates from falling below a desired level is against the spirit of the Fund recommendation that NSS rates should be market-driven.
While approving the recent tranche of $123 million out of the $1.47 billion poverty reduction and growth facility the IMF board of executive directors made no specific mention of returns on NSS.
But a press release issued after the board meeting did say that “the reform of the National Saving Schemes should improve the financial sector’s ability to support investment and growth.”
The IMF-prescribed reform of national saving schemes—as we know—aims at making the rates of return on these schemes market -driven and that was precisely why the same were linked to PIBs yield.
The government does add a few percentage points over 3-year and 10-year PIBs yield to determine the yield on instruments of national saving schemes of similar maturity like defence saving certificates and special saving certificates. Currently DSCs offer 10 per cent on maturity but only 6 per cent if encashed in the first year.
The profit on DSCs made after July 1 2003 is taxable at source at the rate of 10 per cent if deposit exceeds Rs150,000. Tax-free three-year SSCs
offer 8.5 per cent return for the first two and a half years and 9.5 per cent for the last six months.
The rates of return on both DSCs and SSCs are revised biannually—and the yield of three-year and 10-year PIBs serve as benchmarks for revising these rates.
When the State Bank of Pakistan announced on June 16 that it would auction Rs25 billion worth of 10-year PIBs later this month the ploy worked and the yield on these bonds in the secondary market shot up to 6.7 per cent. But finally it went down to 5.7 per cent-still far higher than the last cut-off yield of slightly more than four per cent set at the previous auction.
Whereas the market is anxiously waiting for the announcement of the new rates of return on NSS but much depends on how the banks participate in the next auction of PIBs and how the SBP handles pre-auction developments in the inter-bank market.
That also includes how it conducts the next treasury bills auction towards the end of this month. But the likely political gains of a lower cut in NSS rates are so important that the government can even risk attracting criticism from the IMF—and annoying banks with whatever things have to be done to persuade them to let the PIBs yield rise in next auction.
At the same time the government will not run short of ways for face saving if at all it has to make a deep cut (say 2 per cent or more) in the NSS rates. That the inflation is at 3.2 per cent can provide enough face saving in case of a major rate cut in NSS.
Besides the government has included widows in the list of the retired people and pensioners entitled to invest in a tailor-made national saving scheme for them called pensioners benefit scheme.
The rate of return under this 10-year scheme is quite high—11.04 per cent on maturity though the profit accruing on it is taxable at the rate of 10 per cent if investment exceeds Rs 150,000.
The government may publicise this scheme on a wide scale to divert the attention of the public from other national saving schemes if their rates of return fall drastically.
This seems a very likely situation also because the government plans to raise a huge amount of Rs22 billion through this very scheme in the next fiscal year against only Rs9 billion raised during the current fiscal year.
