Bankers have cautioned that the external benchmarking of new floating rate loans by banks may bring volatility in interest rates, leading to frequent changes in customers’ monthly instalments.

In a bid to improve the monetary transmission, an internal study group of the RBI proposed that all new floating rates – personal or retail loans (housing, auto) and floating rate loans to Micro and Small Enterprises extended by banks from April 1, 2019 – should be benchmarked to one of the four external benchmarks: RBI’s policy repo rate; 91-day Treasury Bill (T-Bill) yield; 182-day T-Bill yield; and any other benchmark market interest rate produced by the Financial Benchmarks India Private Ltd.

According to the FICCI-IBA Survey of Bankers, spreads kept by banks under the proposed external benchmarking of new floating rate loans could be higher to protect themselves adequately in case of high volatility of the benchmarks.

“Higher spread over the external benchmark could raise the overall interest rate for retail borrowers,” said the survey.

Referring to the risks in using external benchmarks, the survey observed that the lack of depth in T-Bill and CD (Certificate of Deposit) markets can make such benchmarks potentially susceptible to manipulation.

“T-Bill may, at times, reflect fiscal risks, which will automatically get transmitted to the credit market when used as a benchmark. Repo rate lacks a term structure and banks have limited access to funds at repo rate,” said the survey. Bankers suggested that to reduce liquidity mismatches and mitigate earnings volatility, the introduction of floating rate deposits can be considered. However, such floating rate deposits are still nascent, they added.

The survey said the experience of banks that have offered floating rate deposits is not very encouraging.

Customers prefer stable return on deposits, and hence, the floating rate deposit product did not take off on expected lines.

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