Transmission of policy rate has been greater on deposits, shows RBI data

Among different bank groups, state-owned banks have seen a greater increase in interest rates on term deposits-both new and existing-compared to their private sector peers

The transmission of the policy rate has had a greater effect on term deposits than on credit in the current interest rate tightening cycle.

According to Reserve Bank of India (RBI) data, following a 250-basis point (bp) increase in the policy rate by the monetary policy committee (MPC) since May 2022, the weighted average domestic term deposit rates (WADTDRs) for new and existing deposits increased by 243 bps and 188 bps, respectively.

In contrast, the weighted average lending rates (WALRs) for new and outstanding rupee loans rose by 181 bps and 119 bps, respectively, from May 2022 to June 2024.

Additionally, the one-year median marginal cost of funds-based lending rate (MCLR) for banks increased by 170 bps from May 2022 to July 2024.

 

Among various bank groups, state-owned banks have seen a greater rise in interest rates on term deposits — both new and existing — compared to their private sector counterparts. Conversely, on the lending side, the increase in rates for new and outstanding rupee loans has been smaller for state-owned banks than for private banks.

During the easing cycle, the transmission of the policy rate was also more pronounced on the deposit side compared to the lending side.

Following a 250-bp cut by the MPC, the WADTDRs for new and outstanding deposits fell by 259 bps and 188 bps, respectively, while the WALR for new and outstanding loans decreased by 232 bps and 150 bps, respectively.

According to Madan Sabnavis, chief economist at Bank of Baroda, deposit rates are directly controlled by banks, so adjustments to these rates in response to policy rate changes occur almost entirely based on revisions for different tenures. This mechanism was more effective during the RBI’s rate hikes.

However, on the lending side, banks use external benchmark-linked rates (EBLRs) and MCLRs.

“While revisions in EBLR occur instantly, depending on the benchmark to which they are linked, changes in MCLR depend on banks’ cost of funds, which is influenced by various other factors. Therefore, MCLR does not move in tandem with the policy rate,” Sabnavis said.

He added that the recent trend of banks increasing short-term deposit rates to attract more deposits will marginally raise the average cost for new deposits. Since this is limited to specific tenures, a commensurate increase in overall costs is unlikely.