The Reserve Bank of India (RBI) left the interest rate at which it lends to banks unchanged (called repo rate in banking parlance) while cutting the amount of money banks need to invest (called Statutory Liquidity Ratio or SLR) in government bonds by 50 basis points to 21.5%.
The second move will release about Rs 42,000 crore of additional money into the banking system. But rising bad loans are making banks reluctant to pass on the rate cuts to customers, who have long been waiting for a drop home loan and auto loan rates.
"Banks are quick to cut deposit rates and are using the increase in spreads to improve their balance sheets. I think it is the pressure of competition which will eventually force banks to pass through these rate cuts. So let us wait and see. It is not regulatory intervention...it's competition (that will force lenders to lower rates)," RBI governor Raghuram Rajan said.
What does it mean for you and me?
Interest rates may go down, but it may have to wait till the end of the quarter, according to bankers. RBI governor says banks should make monetary transmission happen and cut rates. Banks are likely to wait until the Budget to take a call on interest rates to protect their margins.
How are bad loans holding up rate cuts?
According to a senior banker, "We will be forced to hold on to the base rate as much as we can as bad loans are a big drag on profitability. Margins will take a big hit and many banks will have to report losses if base rates are revised without old deposits garnered at higher rates mature. The cut in deposit rates were only for fresh deposits."
Are bad loans growing?
According to the finance ministry, bad loans of public sector banks at the end of the second quarter ended September 30, 2014, were Rs 2.43 lakh crore. For private sector banks, they were Rs 26,389 crore. It is expected to cross Rs 3 lakh crore at the end of the third quarter when all banks announce their financial results. With the demand for quality credit being poor, banks have excess investments in government bonds. Banks will now have a regulatory requirement of investing about 21.5% of their deposits in government bonds.
Why do banks slash deposit rates?
The RBI said banks are cutting deposit rates but are holding on to lending rates to protect margins. With bad loans continuing to rise, banks are desisting from cutting lending rates, so that they remain profitable. Despite all long-term lending rates coming down, Rajan said banks are not passing on lower rates to customers.
Why doesn't RBI force banks to cut rates?
Rajan said the central bank is not the owner of banks. "Rate cut is a decision that bank managements have to take. So, we cannot nudge them to cut lending rates." Despite a fall in long-term interest rates, treasury rates and corporate bond rates, banks' lending rates have remained flat, he said. RBI cut repo rate or rate at which it lend to banks by 25 basis points to 7.75 % on January 15. "Of course, when you talk to banks, they are very happy that we cut rates. At some point, my guess is that transmission has to take place," Rajan said. He said given the weak credit demand, banks at some point in time will have to start lending again.
