RBI to review benchmark PLR structure

In a bid to make the pricing of credit by various commercial banks more transparent, the Reserve Bank of India (RBI) today said that a working group would be constituted to review the present benchmark prime lending rate (BPLR) system and suggest requisite changes.

“Over time, the system of BPLR has evolved in such a manner that it has lost its relevance as a meaningful reference rate as a bulk of loans is advanced below BPLR. Furthermore, this impedes the smooth transmission of monetary signals and makes the loan pricing system non-transparent. It has, therefore, become necessary to review the current procedures and processes of pricing of credit,” RBI said.

The working group is expected to submit its report by end-August 2009. The Indian Banks’ Association (IBA) issued guidelines for determination of BPLR by banks for appropriate pricing of credit after the mid-term review of October 2005. However, as on date, more than 75 per cent of loans are advanced below the BPLR. According to the latest RBI data for some banks, 65 to 70 per cent of fresh loan flows are at sub-BPLR rates, as against 76 per cent in 2007-08.

Loans for commercial real estate are still not available, but loans to large manufacturing companies, in addition to most home loans and short-term farm loans, are being offered at single-digit rates. While the average cost of funds for these banks was roughly 7 per cent, the average yield on their loan book was 10 to 10.5 per cent before the latest round of lending rate reductions, which saw most public sector banks, barring the State Bank of India, lowering benchmark rates by 25 to 50 basis points.

Since most short-term lending is backed by adequate securities at 7.5 to 8 per cent, BPLR is left with little relevance. Since mid-September 2008, when the global financial crisis intensified, RBI has cut the repo rate by 400 basis points and the reverse repo rate by 250 basis points.

However, though all banks responded by lowering interest rates on both deposits and loans, the regulator was not satisfied with the magnitude of the reduction. RBI has said on several occasions that there was further room for rate cuts. Since October, all public sector banks, most private sector banks and some foreign banks have reduced their deposit and lending rates.

The reduction in BPLRs was in the range of 125-225 basis points by public sector banks, followed by 100-125 basis points by private sector banks and 100 basis points by five major foreign banks.