More room for banks to cut lending rates: RBI

Moving on to marginal cost of funding to help banks in faster rate transmission

The Reserve Bank of India said on Tuesday it was not changing any of its key policy rates. That said, it believes banks have room to reduce their own lending rates, noting less than half of the cumulative policy rate reduction of 125 basis points (bps) since January has been transmitted by the latter — the median base lending rate has come down only by 60-odd bps.

“I think if you look at one-three years’ deposits, banks have already cut significantly more than they have transmitted via the base rate. So, in that case, there is room building up for the banks to transmit more,” said Raghuram Rajan, the RBI Governor.

A cut in lending rates is preceded by one in the deposit rates, to ensure the margins are protected.

Rajan added: “We are working with banks on a new methodology to determine the base rate, which will be on marginal cost, and it should be put out sometime this week. What the marginal cost of pricing does is make the costs flow through into lending rates faster. So, the intent is that at least for a time, we will be able to make incremental loans on marginal cost pricing, while their historical loans will be on the base rate.”

Another step RBI believes will help in transmission is the government’s move to make market-linked the small savings scheme interest rate, which includes post office savings and the Public Provident Fund. Banks have been reluctant to transmit the entire policy rate cut to borrowers as they want to keep their deposit rates attractive, to match those in small savings schemes, popular among citizens.

The interest rate being offered by banks on a deposit for a year is 7.5-8 per cent, much lower than the 8.7-9.3 per cent being offered on small savings schemes. Hence their reservations on further reducing the deposit rates.