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BL Research Bureau

The Reserve Bank of India’s move to reduce risk weights attached to commercial real estate lending and reduce the provisioning requirements for home loans signals the beginning of a reversal in the hawkish stand of the central bank, taken early on to curb inflationary trends and a possible real estate bubble.

The move is clearly aimed at encouraging the banking sector to shed its ultra-cautious stance and increase lending to the sector.

While this move is unlikely to provide any immediate growth trigger to the realty sector, large players or companies which are less leveraged may be able to receive funds at relatively lower costs, pursuant to this move.

RBI on Saturday announced yet another set of measures aimed at managing liquidity and improving credit flow. A couple of these measures were aimed at easing the fund crunch being faced by the real estate sector, which is also reeling under a property slowdown.

The central bank reduced the risk weights attached to commercial real estate lending from 150 per cent to 100 per cent.

Risk weight denotes the amount of capital to be set aside by the bank for the said loan. Reducing the risk weight translates into lower cost of lending such funds, which in turn could translate into lower cost of borrowing for the developer. However, this benefit would arise only if banks are willing to lend to the sector, which is currently facing a slowdown in demand for property.

In a move to curb an asset bubble and prevent inflationary trends, the RBI increased the risk weights for lending to the realty sector from 100 per cent to 125 per cent in July 2005 and further hiked the same to 150 per cent in April 2006. Between 2005-08, banks’ credit to real estate moderated — from a year-on-year growth of about 100 per cent (2005) to 46 per cent by August 2008.

The growth continued to be robust in initial years after the increase in risk weights, given a lower base and also a relatively low cost interest rate regime. However, once interest rates began their steep climb in 2007, credit growth both to the real sector and housing loan sector slowed.

Even as the current reduction in risk weights may help companies borrow at lower rates, if banks loosen their purse strings, an improvement in demand would be the key trigger for a recovery in the sector. For this, lower home loan rates combined with affordable property pricing may remain the key.

Currently, the Reserve Bank of India has not reduced the risk weights on home loans. It has only reduced the provision made by banks for standard home loan advances and real estate loans to 0.4 per cent. While this could improve the bottom line for banks, it is unlikely to translate in to any direct benefit either for the home buyers or the developers.

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