RBI holds rates, borrowers in for a long wait

But moving away from bank specific benchmark lending rates could improve transmission over the long run

The RBI holding rates, though widely expected, has brought little cheer to borrowers. After the sharp fall in the beginning of the year, banks in any case, have only been tinkering with their benchmark lending rates. Even after the 25 basis point cut in policy rate in the previous August policy, only a few banks trimmed their lending rates. At best borrowers can see some pass through of the cut in deposits rates over the past two months, by few banks.

The RBI’s proposal to move away from bank specific benchmark lending rates to external benchmark, however, could improve transmission in the long run and benefit borrowers.

A long wait

New borrowers, whose loans have been pegged to the marginal cost of funds-based lending rate (MCLR) introduced in April last year, have been a happy lot. After dragging their feet through 2016, banks, taking cue from the largest lender--SBI in January this year, slashed their MCLRs by 70-80 basis points. While this brought good tidings to borrowers (particularly those who availed loans post April 2016), there hasn’t been much respite since then.

Until the August policy, lending rates have remained more or less unchanged, despite deposit rates continuing to fall.

After a long pause, the RBI cut its key policy rate by 25 basis points in the August policy. While this did nudge a few banks to trim their MCLR, broadly it did not bring much relief to borrowers. Andhra Bank, Dena Bank, Punjab National Bank and Union Bank are a few that cut MCLR by notable 20-30 bps since August. Others have maintained status quo or at best trimmed MCLR by 5-10 bps.

Interestingly bigger banks such as SBI, ICICI Bank, Axis Bank, HDFC and Bank of Baroda, after wielding the scissors in January, have since kept their benchmark MCLR unchanged.

Borrowers hoping for lending rates to fall further should quit playing the waiting game and lock into best rates now. Flagging upside risks to its inflation target, the RBI has yet again chosen to retain its neutral stance, which it shifted to (from accommodative) in February this year. Non-food factors such as house rent allowance increases, higher fuel prices, unfavourable base effects and rising risks to meeting fiscal deficit target for FY18, is likely to keep policy rates unchanged for a while. Though much of the RBI’s future actions will be data dependent, for now the window for further rate cuts looks limited.

Depositors’ plight

While borrowers have not seen rates fall meaningfully since January, depositors’ woes have hardly abated. Banks flushed with deposits post demonetisation cut deposit rates substantially by 50-100 basis points between November and February, and continued to trim them by as much as 50-75 basis points in recent months too.

Interestingly public sector banks such as Bank of Baroda, Canara Bank, Dena Bank PNB, Union Bank have cut their deposit rates by a notable 20-30 basis points since August. SBI too, this week cut its one-year deposit rate by 25 basis points.

While transmission of the cuts in deposit rates to lending rates happen with a lag, meaningful cuts in loan rates are unlikely. Asset quality pressure and weak credit growth continue to hurt banks’ margins. Hence banks are unlikely to pass savings on cost of deposits in a hurry to borrowers.

Fixing transmission

Banks have been facing flak over the unsatisfactory cuts in MCLR and rigidity in base rate, which the RBI proposed to look into, in August. Citing ineffectiveness of internal benchmarks such as the base rate or MCLR the RBI has recommended a switchover to an external benchmark. While the contours of the new framework are yet to be finalised, removing the hurdles in transmission, would benefit borrowers in the long run.

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