Money & Banking

SBI's steep rate cut leaves old borrowers in the lurch

Radhika Merwin BL Research Bureau | Updated on January 12, 2018

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By increasing the spread over MCLR by 40 basis points, the bank has also offered only some respite to new home loan borrowers

SBI’s sharp rate cut of 90 basis points in its benchmark lending rate is no doubt a welcome move, as it has set the ball rolling for similar cuts by other leading banks. While the RBI’s policy rate cut and the Centre’s demonetisation move led to a steep fall in deposit rates, very little was transmitted to borrowers up until now.

But while SBI’s move will benefit new borrowers taking loan from January 1, rates on loans priced against the erstwhile benchmark base rate have stayed pat, offering little respite for old borrowers. Post SBI’s latest move, old borrowers (who have taken loans prior to April 2016) have to cough up 90 basis points more as interest on loans than new borrowers.

Even borrowers taking loans post January 1, will not benefit fully from SBI’s steep cut in its MCLR (marginal cost based lending rates), as the bank has increased the spread---mark-up on MCLR—from 25 basis points to 65 basis points for home loans. The effective home loan rate has hence fallen by only 50 basis points to 8.65 per cent effective Jan 1.

MCLR cuts

From the beginning of January 2015 (when the rate easing began) until now, banks’ weighted average lending rate (on outstanding loans) has fallen by about 70 basis points according to data put out by the RBI. On fresh loans, the fall in lending rates has been higher by around 100 basis points. These cuts nonetheless fall short of the 175 basis point reduction in repo rate—at which banks borrow short term funds from the RBI—since the Jan 2015 policy.

To tackle the issue of transmission, the RBI introduced the MCLR framework, which to some extent has forced banks to lower their benchmark MCLR. Recent cuts have been triggered by the Centre’s demonetisation move that led to sharp fall in deposit rates. Under the MCLR framework, as banks have to calculate their cost of funds based on the latest rates offered on deposits, changes in deposit rates are reflected on banks’ cost of funds faster leading to cuts in MCLR.

However, even under MCLR, lending rates had fallen only marginally when compared to the steep cuts in deposit rates by banks. Deposit rates across banks have fallen by more than a percentage point in 2016. In contrast, up until now, leading banks have lowered their MCLR by just 25-30 basis points.

SBI’s move to accelerate the cuts in MCLR, may force other leading banks to lower their rates too. While this appears to be good news; old borrowers have little to cheer even now.

Not much for old borrowers

This is because existing borrowers (for loans taken before April 2016) continue to be charged interest on loans based on the earlier base rate system. Base rates for most banks have remained unchanged throughout 2016. Hence, old borrowers have not seen any relief in lending rates after the MCLR was implemented in April last year. SBI, for instance, last lowered its base rate in October 2015 to 9.3 per cent. SBI’s old borrowers continue to pay 9.55 per cent interest rate, based on the erstwhile base rate (9.3 per cent). Home loan borrowers taking loans post January 1 2017, will now be charged a much lower 8.65 per cent.

Widening disparity

The disparity in lending rates also exists for borrowers who have taken loans after April 2016, (after the MCLR was introduced). This is because, reduction in MCLR month on month, alone will not mean a reduction in lending rate. Unlike under the base rate system, where a revision in base rate was immediately reflected in lending rates of all loans benchmarked against it, under MCLR based pricing, lending rates are reset only at specific intervals, corresponding to the tenure of the MCLR. In case of SBI’s home loans, for instance, since the loans are benchmarked against the one-year MCLR, lending rates will only be reset every year. In April 2016, one-year MCLR stood at 9.2 per cent. The effective loan rate then worked out to 9.45 per cent. These borrowers too will end up paying 80 basis points more as interest on their loans than new borrowers.

Hence, while SBI’s move will trigger further cuts by other banks, it may not bring cheer to all borrowers alike.

The spread game

If old borrowers have been handed the short end of the stick under the new MCLR regime, new borrowers too have been left with little goodie. This is because, while SBI has lowered its MCLR by 90 basis points, it has increased the spread on the home loan by a sizeable 40 basis points effective January 2017, offsetting some of the gain of lower rates. New borrowers (effective January 2017) have to pay a spread of 65 basis points over the one-year MCLR at 8 per cent. The resultant loan rate has hence fallen from 9.15 per cent (until December) to 8.65 per cent now---by only 50 basis points.

Published on January 02, 2017

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