Lowering of interest rate and impact on retirees

Last some years many retirees are witnessing lesser money in their pocket in an economy where cost of living is increasing. It has created financial distress to those people. But same is not the case for all retirees. Lets examine in detail why it has happened and what is the solution.

This problem has been faced mainly by those retirees who have invested all or bulk of their money in bank FD. It’s the first mistake done by them.

RBI borrows through issuance of various government securities for meeting deficit (revenue minus expenditure) and also for funding long term government projects. RBI through their various policy measure (CRR, SLR. Credit policy etc) from time to time gives direction to all participants what should be interest rate level within economy. Its natural that any borrower (loan taker) will always want to pay low interest rate and not high. So, its natural that RBI will also like interest rate to be low as RBI is the biggest borrower within economy. Government earns revenue through various taxes. So, if corporates or individuals who take loans from bank if they have to pay lesser interest then they have more profit or surplus. More profit at corporate end means more tax and revenue for government. More surplus in the hand of individual translates into more consumption and spending (helping corporates) or investment. So low interest rate is beneficial for all.

Now why bank interest rate has been reducing? It’s because bank earn from lending and not from deposits. Deposits gives money to bank for lending. But bank earning is basically from margin (lending rate minus deposit rate) so when they reduce lending rate (beneficial for all borrowers) they reduce deposit rate also (depositors suffer). As bank volume of lending increases with a small margin also they gain.

What will be trend ahead? In long term all interest rate within economy will reduce and it short term it can fluctuate.  Facts are before us since 1980s till date. As there will be more and more revenue for government through taxation lesser need for RBI to borrow. Trends again since 1980s point towards that only in long term. Short term again will fluctuate. On cost of living (inflation) as there will be more money in economy and in people pocket (domination of those still earning) this cost will grow which will impact all and more negatively to retirees. Facts are before all to judge. A simple fact is Rs 1 lakh today was worth Rs 386968 some 20 years back. The same 1 lakh of today will be worth Rs 31180.00 after 20 years from now. The above calculation has been taken on past and present inflation rate. So, one can judge how the value of money is getting eroded.

Someone retiring at say 60 years invests for 3- or 5-years bank FD. He gets an interest rate and at maturity he again deposits for similar period but at a lesser rate. He has forgotten that his life and dependence on this money will be till he survives ( till age of 80 or 85 or even 90). So never put all money in bank FD.

What to do now? The first choice of any retiree should be investing in Senior Citizen Savings Scheme and LIC PM Vyay Vandana Yojna. Both giving interest rate @7.4% per annum as of today. This return is guaranteed for next 8 years and 10 years respectively. Maximum limit is 15 lakhs in each under a single name. If spouse has been also working and over 60 years age then she can also invest her retirement money. So, it can be maximum 60 lakh if combined together (subject to what stated). Then one can put 9 lakh (4.5 +4.5) in name of both husband and wife in Post Office MIS. Once this exhausted then some amount can be put in bank account.

Also, some left over amount should be put in mutual fund (debt, hybrid and equity).

Rule should be simple: fixed, regular expense have to be met from fixed regular income (Pension, Interest income from Senior Citizen Saving Scheme, PM Vyay Vandana Yojna, regular and fixed income generating investment etc).

Since one can survives beyond 70 years (longevity has increased) some money should be in equity mutual fund (large cap, large and mid cap, multicap fund) as equity gives best return in long term (> 7 years). This growth can help retirement corpus not to deplete.

Have a withdrawal rate that equals growth rate. So, if 7% is growth then have 7% as withdrawal (you are not eating your capital).

Have bucket strategy. From immediate to short term to mid term to long term requirements investment product choice should be accordingly.