Banks To Anchor Floating Rates To Plr, Bank Rate

Says K Kannan, chairman and managing director, Bank of Baroda: We plan to link deposit rates to the bank rate. Some other bankers state that they will link deposit rates to the PLR. However, according to Kannan, for the first time banks will be exposed to liquidity risk. For instance if the deposit rates fall substantially, liabilities will flow out of the bank, crystallizing the liquidity risk.

For the first time the Reserve Bank of India has signalled a floating deposit rate. The recent policy measures state that banks may offer a fixed rate on deposits or a floating rate clearly linked to an anchor rate. The floating deposit rate concept according to bankers will help banks manage their assets and liabilities better. The banks could use their prime lending rate and quote their deposit rates keeping this as their benchmark.

The apex bank has also announced total freedom on deposit rates with the last restriction on deposit rates between 30 days and upto one year being done away with. The central bank had earlier prescribed interest rates on these deposits as being not exceeding bank rate minus 2 percentage points per annum.

Bank heads stated that it is expected that initially a number of banks might go ahead with undercutting of rates on deposits. ICICI bank has already cut the rates by as much as 2 per centage points on their long term deposits between three years and five years. On shorter maturity deposits, the cut has been less drastic with 1 per centage point reduction in deposits between 91 days and one year from 8 per cent to 7 per cent.

The deregulation of deposit rates did not come as a surprise to bank heads as it was one of the major expectations from the credit policy and was in line with the gradual deregulation of interest rates by the central bank. It is expected that the deposit rate cut will follow a cut in the lending rates of most banks in order to contain the impact on cost of funds for banks.

The lendable surpluses of banks would in fact be enhanced with the 2 per centage point cut in cash reserve ratio requirements from 10 per centage points to 8 per centage points.

Effective October 22, 1997, banks are free to fix their own interest rates on domestic term deposits of 30 days and over. The central bank has stated that banks should obtain prior approval from their respective bards for the interest rates they will be offering on deposits of various maturities. Consequently, banks may offer a fixed rate on deposits or a floating rate clearly linked to an anchor rate. Banks may offer new rates on fresh deposits and on renewal of maturing deposits.