Little interest in cutting rates

Most of the banks feel that by reducing the lending rates, their spreads (profit margins) will come down further. In fact, prime lending rates (PLR) — that interest rate for blue-chip borrowers — had come down by almost two percentage points in the last one year. However, credit offtake has not improved as corporates are finding the interest rate level too high when compared to western standards. The collapse of the inter-corporate deposit market due to defaults, the continuing ban on bridge loans and the weak capital market have virtually shut the doors for the corporate sector to raise money.

As per the Reserve Bank figures, non-food credit as on September 12, 1997 is down by Rs 3,003 crore at Rs 2,67,501 crore when compared to the same period of last year. The sluggish credit offtake has forced SBI to scale down the loan asset growth rate from 16 per cent to 13 per cent. Senior bankers said this is the case with most of the banks. Adding to the woes, there has been a slowdown in the pace of deposit growth in the banking sector during August 1-September 12. The average fortnightly increase in bank deposits declined from Rs 2,928 crore for the first seven fortnights of 1997-98 (upto August 1) to Rs 2,393 crore in the three fortnights from August 1 to September 12, according to ICICI Securities.

Although Verma and other bankers feel that a turnaround in sluggish industrial growth rates was round the corner, it is to be seen to what extent it will boost credit offtake. “The profit margins are already facing a large strain. With poor credit offtake, our incomes have also been hit,” complained the chief executive of a leading private sector bank, adding, “we cannot afford to cut lending rates further.”

Caught between the two sides (i.e. banks and corporates), Reserve Bank Governor C. Rangarajan is keen on bringing down interest rates further. As the inflation rate remains at a reasonable low level (4.04 per cent) and inflationary expectations are broken, he says, it should be possible to bring down the nominal interest rates. Notwithstanding the nervousness on the part of bankers, industry pundits are expecting the RBI to bring down the bank rate (the central bank has linked both deposit and lending rates to the bank rate) in the forthcoming credit policy in the third week of October.

This means there will be pressure on banks to reduce lending rates. Banks are already comfortable on the deposit side. The servicing of deposits will, in fact, turn out to be a big problem for banks. If deposit rates are cut further, there are fears that money will flow out of the banking system to other areas. According to a senior banker, even if the PLR comes down by another one percentage point to around 12/12.5 per cent, credit offtake is unlikely to pick up significantly. “The RBI should bring down the band (in the case of weak borrowers banks charge a higher interest rate — PLR plus a band four per cent) from 4 per cent to 3 per cent,” he said.

The interest rate conundrum worries banks as never before as banks had cleaned up their balance sheets by adopting prudential accounting practices and made a profit of over Rs 3,000 crore for the year ended March 1997. Once-bitten-twice-shy, many of them have become reluctant lenders and most of them now go by rule books. “The Indian Bank episode had scared many bankers,” said a bank official.

The corporate sector is finding the interest rates rather high. This is one reason why major companies have been tapping the external commercial borrowing (ECB) route to access cheaper foreign funds which carry an interest rate of at least four per cent lower than the Indian PLR. The poor credit demand is partly because of an economic slowdown and partly because large firms are raising funds through private debt placements and ECBs. Many firms like Reliance had used cheap foreign loans to retire costly domestic debt. “The cost of borrowing in India is very high. The interest rate should be ideally 2-3 per cent more than the inflation rate,” says Prashant Ruia of the Essar group.

As a matter of fact, the high interest rates and the capital market depression were the two major reasons for the slowdown in the industrial production and project implementation. Expecting further fall in interest rates, many corporate have delayed their financing plans. “I’ve decided to wait for some time… to see whether interest rates will come down after the credit policy before tying up for loan requirements,” said Sandip Somany, joint managing director, Hindustan Sanitaryware which has plans for a Rs 140-crore expansion.

Many companies ended up with huge interest burden for the year ended March 1997 Tata Steel paid Rs 274 crore, Telco, Rs 215 crore, ACC Rs 81.85 crore and Mahindra & Mahindra Rs 80.51 crore. The huge interest outgo at a time when companies are going ahead with huge expansion and modernisation plans has been a roadblock for the corporate sector for quite some time.

Opinion is unanimous that there has to be a turnaround in the industrial scenario (production and demand should increase) and the capital market. Lower interest rate alone will not turn around the fortunes of the industry with many sectors like textiles, cement, paper and steel facing tough times. More than any corporate house, the government will benefit maximum from lower interest rates as it is the largest borrower in the market.