How opaque MCLR allows looting of borrowers

In my two previous pieces, I explained how banks are looting home loan borrowers under the benign gaze of the regulator, the Reserve Bank of India (RBI). In this piece I will try to paint how big the loot is, and how flawed the marginal cost of fund-based lending rate (MCLR) structure is. For this piece, I encouraged Shirniwas Marathe, a retired banker who has gone into the depths of the issue of home loans, to do some calculations. He has come up with some stunning numbers to indicate the extent of overcharging going on under the overall floating rate system, even though banks consistently stonewalled Mr Marathe when he tried to get the data through Right to Information applications.

To start with, the entire credit of the banking system is distributed over loans of various tenors and various rates. The MCLR effective date (April 1, 2016) lies in the entire tenure of a loan anywhere from the first year to the 20th year. In other words, a loan taken in August 2015 would be in its first year on the MCLR effective date while a loan taken in December 2006 would be in its 10th year, while a loan taken in October 1995 would be in its 20th year. “The distribution of all these can be assumed to be a ‘normal distribution’ in statistical terms and theoretically we should take the weighted averages over the duration of loans, over various interest rates and over various tenors,” he says.

Based on his assumptions, he believes that a rough estimate of the loss inflicted by the banking system as a whole by denying the MCLR benefits is more than Rs 43,000 crore! The calculation is as follows. The floating rate credit is about Rs 29,53,106 crore, for 80 per cent of which the banks may not have passed on the benefits to borrowers. Assuming different loan periods (20 to 10 years) and different contracted interest rates (9.75 per cent to 12.75 per cent), the interest benefit denied could be around Rs 43,437 crore, he calculates, assuming the post-MCLR interest rate to be 8.75 per cent. Once again, this is only an approximation because we simply don’t know the aggregate loan amounts under different tenures and the corresponding original interest rates on which the MCLR benefit is supposed to be given. Mr Marathe has worked out an average figure. We now move to the second part of the problem: The calculation of the interest rate itself. An RBI circular of April 6, 2010, lays down the methodology of calculating the base rate as a summation of the four factors below. 

• Cost of deposits/funds: “The cost of deposits/fund varies with the spread of the deposits over components like current account and savings account (CASA), buckets of the term deposits, call money borrowings and other borrowings,” explains Mr Marathe. But the RBI does not monitor any of these closely for individual banks, leaving enough scope of manipulation in calculating the cost of deposits. 

• Negative cost of carry on CRR and SLR: Banks need to lock up a part of the deposits in the statutory liquidity ratio (SLR) and cash reserve ratio (CRR). The RBI assumes that the combined yield on this is lower than the cost of deposit (negative carry). If so, under the a+b+c+d formula, b should be a negative figure, reducing the base rate. But Mr Marathe argues that the formula specified by the RBI is wrong, and creates a positive, not negative, carry, increasing the base rate.

• Unallocable overhead cost: The components of the unallocable overheads were not clearly defined, leaving enough scope for banks to show a higher figure. 

• Average return on net worth: “This is the ratio of net profit to deployable funds expressed as percentage. It is not clear again whether it is the net profit of the last quarter or the weighted average of the profit over the financial year,” points out Mr Marathe. 

In April 2016, when the benchmark was changed to the MCLR, the components were changed to: Marginal cost of funds; negative cost of carry on the CRR; operating costs; and tenor premium. Clearly, almost all components of the flawed base rate have been carried forward to the MCLR regime for the banks to continue to manipulate the benchmark rate at the expense of borrowers. Note that the negative cost of the SLR and CRR is now only the CRR. This removes the gains from SLR income from the calculation, increasing the cost and allowing banks to push up the MCLR figure even further. Meanwhile, remember that the banks have been charging separately for almost every service they offer and hence there is no operating cost that can be added to the calculation of the MCLR in accordance with the RBI directives and yet the RBI has allowed them the leeway to do exactly that. Will the RBI check what “operating costs” are being loaded into MCLR calculations? The RBI has now decided to set up an internal committee to look into the MCLR. No, there is no talk of fixing responsibility on anyone who has allowed banks to continue to loot us through flawed and opaque benchmark calculations. After all, who expects the regulator to regulate itself? Expect more of this free-for-all for banks to charge you what they want to.
 

The writer is the editor of www.moneylife.in

Twitter: @Moneylifers