Wait for lower rates gets longer as banks fight NPAs, growth pressures

Over the last one year, the Reserve Bank of India has repeatedly expressed concern about the partial pass through of rate cuts to borrowers. What has irked many borrowers and savers is the fact that the same lenders have been quick to slash deposit rates steeply. In fact deposit rates have fallen by 125-150 basis points, making it a double whammy for them. The reluctance on the part of banks is clearly visible. In September 2015, when the RBI announced a 50 basis points (bps) cut in repo rate, State Bank of India slashed its base rate by 40 bps. However, it quietly increased its spread on home loans from 5 basis points earlier to 25 basis points which effectively means the real cut was only 20 bps for new borrowers. Banks are not in a hurry to slash lending rates as they reckon that tacking bad loans and setting aside capital for them is more critical. Stressed loans — now constitute 21 per cent of total bank credit — of corporates which could lead to a Rs 1,00,000 crore haircut for banks.

Will lending rates come down any time soon? Short-term interest rates in the market are already firm; commercial paper and government bond yields have hardened and tight liquidity conditions have added to the problems. “The 10-year benchmark government security yield remains elevated reflecting hardly any impact of monetary easing. The yield at around 7.7 per cent average in January 2016, remains unchanged from a year ago. Downward rigidity in bank base rates is the other big worry. We believe fiscal 2017 should see faster rate cut transmission as average borrowing cost of banks comes down and they begin to fix their lending rates based on marginal cost of funds,” said a Crisil Report.

Bankers are optimistic about rates coming down. “With CPI inflation poised to moderate to 5 per cent levels by the end of FY2017 and government committed towards spurring investment-led growth and maintaining high-quality fiscal consolidation, incremental room for monetary accommodation will open up post the announcement of the Budget. I expect the RBI to play a complementary role and lower rates by 75 bps in 2016,” said Rana Kapoor, MD & CEO, Yes Bank.

A rate cut, if at all, in the near-term could hinge on the government’s stance on fiscal consolidation in the upcoming Budget. RBI Governor Raghuram Rajan has put the onus on the Centre, saying that “structural reforms in the forthcoming Budget that boost growth while controlling spending will create more space for monetary policy to support growth, while also ensuring that inflation remains on the projected path of 5 per cent” by the end of 2016-17.

The RBI has made it clear it will continue to be accommodative even as it left the policy rate unchanged in its February 2 review. “Key focus will now be the Budget in terms of measures to enhance growth and outlining of fiscal consolidation. The policy stance was accommodative and future action will be based on budget outcomes,” said Shanti Ekambaram, President (Consumer Banking), Kotak Mahindra Bank.

Chandra Shekhar Ghosh, founder, MD & CEO, Bandhan Bank, said, “Rajan has committed to continue with an accommodative stance. This means, the rates will not go up; they can come down, provided the inflation data is favourable and the government embarks of structural reforms.” However, transmission happens after a lag. “Thus, 25 to possibly 50 bps of policy rate cut continue to be our base-case scenario for 2016. We expect April 16 as the most likely earliest date for easing. The principal risk, of course, comes from the Budget,” HDFC Bank said in a report.

That said, the RBI has prepared the ground for a smoother transmission of interest rates in the banking system as it has told banks to price all new loans sanctioned or renewed from April 1, 2016, based on the marginal cost-based lending rate (MCLR). As the MCLR norms are applicable only on incremental loans, it will reduce the impact on bank margins and the RBI has also given an option to existing borrowers (currently linked to the base rate) to continue till repayment or renewal of loans or migrate to MCLR.

The new RBI measures are expected to improve transparency in the methodology followed by banks for determining interest rates on advances. The guidelines are also expected to ensure availability of bank credit at interest rates which are fair to the borrowers as well as the banks. Further, MCLR loans will help the banks become more competitive and enhance their long run value and contribution to economic growth.

But given the challenges of bad loans, slow growth and global volatility, the prospects of rates coming down substantially this year do not appear to be bright. Indeed, the wait for lower rates for borrowers could be longer — and if at all, perhaps from the second or third quarter of 2016-17.