Prime no

For once,theres unadulterated good news to report from the RBIs headquarters in Mumbai. The central bank has announced it will go ahead with a long-overdue shift from the benchmark prime lending rate BPLR to a base rate system. This shift,which will come into effect in the coming fiscal year,is a sensible direction in which to move. The prime lending rate is supposed to represent the basic rate at which banks lend out to their best borrowers. Yet it has become essentially meaningless: after all,much lending to the best prime borrowers takes place at rates considerably lower than the prime lending rate. And,of course,there is a continuum of rates offered to smaller businesses and individuals; the particular BPLR has no significance any more.

This means that the information it conveys is particularly opaque,and that at times such as over the past year when the access of prime borrowers to lending is a major policy issue,the BPLR is not a useful guide to policy-makers. The base rate will set a floor for bank-specific lending. Of course,that floor is subject to the deposit rate the base rate will not be lower than the deposit rate. Then to that interest rate will be added charges that will vary from borrower to borrower,making it absolutely clear what the bank is charging allowing policy-makers and potential customers to make more informed judgments. In particular,those additions will be comparable across banks.

This has the potential to be a game-changing move. It creates the possibility that borrowers particularly prime borrowers will be able to choose among various banks; this will lead to much needed infusion of competition in the industry. Banks will be forced to compete on cutting some of these costs to retain their prime borrowers. Indian banks have,for far too long,been able to hide from any competitive pressures,allowing government regulations,a lack of transparency about cost structures,and insulation from the threat of new entrants to keep them safe while reaping in near-guaranteed profits anyway. This cannot last. The time has come to get Indian banks to put our money to work sensibly,and dumping the prime lending rate is a crucial first step.