ANALYSIS. Banks may not lower rates to take on risk

The RBI Governor Raghuram Rajan again nudged banks to transmit to borrowers the 75 basis points cut in the repo rate so far this year.

But banks have been arguing that they have already been reducing interest rates for ‘good borrowers’ — those who are unlikely to default — over the last one year.

The weighted average lending rate on fresh loans, says RBI’s latest report, has actually fallen by 40 basis points over the last year - to 11.25 per cent in March this year, from 11.64 per cent last year. Here’s why.

Many banks, flush with liquidity, had begun cutting rates on deposits, last year, much before the RBI started easing the repo rate.

Also, due to slowing lending opportunities, banks have shed high cost deposits to protect their margins. With their cost of funds coming down, banks have been transmitting some, if not all of the benefit to borrowers in the form of lower lending rates.

But banks, having burnt their fingers with recalcitrant borrowers, have been selective with their largesse. So, it has only been the good borrowers that have been able to source funds at cheaper rates from banks.

It is safe to assume that the average lending rates disclosed by the RBI’s latest report for fresh loans mostly reflect the rates offered to good borrowers.

The RBI Governor indicated that while banks’ lending rates do not yet reflect the policy actions entirely, corporate bond markets have been doing so and offering lower rates.

So, with yields on corporate bonds falling, companies have been flocking to the secondary market, rather than to banks, to raise funds. In effect, the governor may be giving cues to banks to cut rates further to be able to compete with the bond market.

But this may be easier said than done.

For one, banks that have already reduced lending rates for good borrowers over the last year are unlikely to pass on the benefits to risky borrowers. Given their considerable trouble with bad loans already, banks, especially the PSU ones, may be chary of going for growth at the expense of risk.

Next, there has always been a difference between the rates at which corporates borrow from banks and from the bond market, the latter being cheaper.

Finally, while corporate bond yields have fallen by 70-80 basis points over the last year, markets seem to as averse to lending to lower rated corporates as banks. The difference in bond market lending rates for borrowers rated AAA and AA has increased from about 30 basis points in September last year to 60 basis points now.

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