COMMENT. Lending rates unlikely to fall sharply from here on

The RBI staying pat on policy rate did not go down well with the market, as expectations ran high on a 25 basis point rate-cut.

More importantly, the RBI has now shifted its policy stance from accommodative to neutral, citing upside risks to inflation. Working with a real interest rate target of 125 basis points and inflation estimate of 4.5-5 per cent for the latter part of the next fiscal, the RBI has discreetly indicated that there’s little scope for further rate cuts.

This will limit banks’ ability to cut lending rates sharply hereon. While the RBI chose to hold rates in the December policy, banks, led by the largest lender SBI, cut lending rates sharply over the past month.

Demonetisation, which led to a sharp rise in deposits, triggered a spate of deposit rate cuts. This made banks cut loan rates aggressively. While some of the benefit of lower deposit rates may trickle down to lending rates in the coming months, sharp reductions are unlikely.

From the beginning of January 2015 (when the rate easing began) until September 2016, banks’ weighted average lending rate (on outstanding loans) had fallen by about 70 basis points, according to data put out by the RBI.

On fresh loans, the fall in lending rates had been around 100 bps. These cuts fell short of the 175 bps reduction in repo rate — at which banks borrow short-term funds from the RBI — since the January 2015 policy.

But borrowers were handed a sudden bounty last month, when SBI set the ball rolling for steep cuts in lending rates.

Up until then, leading banks had lowered their benchmark lending rates by just 25-30 bps, despite more than a percentage fall in deposit rates.

SBI, in January this year, slashed its MCLR (marginal cost of funds based lending rate) by 90 bps.

Other banks were quick to follow and there has been a 70-80 bps reduction in lending rates (only for new borrowers though) across the board over the past month.

Since under the MCLR framework banks have to calculate their cost of funds based on the latest rates offered on deposits, changes in deposit rates (post demonetisation) reflect on banks’ cost of funds faster leading to cuts in MCLR.

From April until November (before the demonetisation move), deposit rates had fallen by 30-50 bps in leading banks across various tenures. But with bank deposits swelling post the Centre’s move to scrap old high-denomination notes, deposit rates have fallen by a substantial 50-100 bps across banks and tenures over the past month or so.

A look at the reduction in deposit rates and MCLR over the past month across leading banks indicates that transmission has happened almost entirely. This leaves very little scope for sharp lending rate cuts from hereon. Lending rates could come down in fits and starts in some banks, as they pass on the leftover benefit of lower cost of funds.

Sharp cuts in lending rates over the past month have mainly benefited select borrowers, a trend that is likely to continue. Home loan borrowers have gained the most, as banks have been competing aggressively to offer cheap rates in this segment.

As home loans carry lower risk (hence lower risk weight) banks find it easier to push lending in this segment.

Within the corporate segment, good borrowers stand to gain, as banks will continue to focus on high rated corporates. Punjab National Bank, which shows the rate it charges its SME customers based on the risk profile, indicates the disparity in banks’ lending rates across borrowers with varied rating score.

According to PNB’s website, for corporate borrowers with ‘AAA’ rating, the bank’s loan rate is 20 bps more than the respective MCLR. Loan rates on working capital loans, benchmarked against one-year MCLR, work out to 8.65 per cent. For a lower ‘A’ rated corporate, the mark-up over MCLR is 65 bps, which works out to a higher effective lending rate of 9.1 per cent.

COMMENT NOW