New lend­ing rates: Is RBI fix­ing what is not bro­ken?

Mint Asia ST - - Mark To Market -

The Re­serve Bank of In­dia (RBI) is clearly a frus­trated cen­tral bank when it comes to mone­tary pol­icy trans­mis­sion. Af­ter chang­ing the way banks charge their bor­row­ers twice and brow­beat­ing them count­less times, the reg­u­la­tor is nowhere close to push­ing lenders to swiftly trans­mit its pol­icy rate mea­sures.

A panel in­volv­ing RBI’S staff would have us be­lieve that de­spite in­tro­duc­ing newer and more sci­en­tific ways to cal­cu­late the lend­ing rate, banks are still charg­ing in­ter­est rates based on ar­bi­trar­ily ar­rived spreads.

RBI wants to change this yet again and bankers are pre­dictably op­posed to what the cen­tral bank’s panel has rec­om­mended.

The panel has made nine rec­om­men­da­tions that range from the work­able to my­opic to naive. It rec­om­mends that banks re­cal­cu­late their base rates im­me­di­ately and pass on the 200 ba­sis points cu­mu­la­tive re­duc­tion in pol­icy rates since Jan­uary 2015 to the fi­nal lend­ing rate charged to at least 30% of the bor­row­ers still. A ba­sis point is a one-hun­dredth of a per­cent­age point.

This should be done given that base rates have hardly been cut, mak­ing a mock­ery of trans­mis­sion. The re­port of the panel shows that weighted av­er­age lend­ing rate on out­stand­ing loans has fallen by 61 ba­sis points since April 2016 while those on fresh ru­pee loans has fallen by a higher 95 ba­sis points. April 2016 was when the new mar­ginal cost of funds based lend­ing rate (MCLR) was in­tro­duced. RBI adds that banks are re­luc­tant to make cus­tomers aware of MCLR and con­vert base rate-linked loans to MCLR.

The sim­plest so­lu­tion to this would have been a sun­set clause for the base rate akin to what was pre­scribed for bench­mark prime lend­ing rate. RBI has nei­ther done that nor given a rea­son for it.

An­other rec­om­men­da­tion is that loans sanc­tioned af­ter April 2018 should be linked to an ex­ter­nal bench­mark pre­scribed by the cen­tral bank. The ac­cept­able ex­ter­nal bench­marks given by the panel are Trea­sury bills (T-bills) rates, cer­tifi­cates of de­posit (CDS) and RBI’S pol­icy rate. The main grouse of RBI seems to be that banks charge ar­bi­trary spreads over MCLR mak­ing the fi­nal lend­ing rate steep even in cases where a re­duc­tion in loan rates is war­ranted. But link­ing loans to a mar­ket-based rate hardly solves this. In­stead, what it will do is make lend­ing rates volatile.

Ask­ing banks to link their loan rates to a mar­ket bench­mark that has no di­rect link­ages to their li­a­bil­ity book is grossly un­fair. T-bill yield is the fund­ing cost of the govern­ment, not banks. A ma­jor risk is that T-bills and CDS yields can be eas­ily ma­nip­u­lated given that the mar­ket is shal­low. CDS hardly ac­count for cost of funds of lenders. RBI’S repo rate is an overnight rate and cal­cu­lat­ing the risk and tenor pre­mium would bring back the is­sue of spreads full cir­cle.

For all its short­com­ings, trans­mis­sion through MCLR has been rea­son­able and bet­ter than that of the pre­vi­ous regimes. In mak­ing yet an­other change in lend­ing rates, the cen­tral bank is fix­ing what is not bro­ken. The larger ques­tion is whether RBI should be pre­scrib­ing how com­mer­cial banks de­cide their lend­ing rates.

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