Banks reduce rates in spite of RBI signal

The Reserve Bank of India (RBI) in its second quarter monetary policy gave a clear signal to the bank about its decision of its exit from accommodative stance. It was believed that due to RBI decision the interest rates will move only upward.

But in the recent months almost all the banks have reduced the interest rates. Thus a month back a loan which could be taken at 8% is now available at a rate which is 100-150 basis points lower.

However, there has been decline in the cost of one-year loans by about 100 basis points to 7-9 per cent over the last four weeks, whereas loans for five years which used to cost 10 per cent, is now become cheaper by about 50-75 basis points cheaper.

After the RBI policy the two largest public sectors lender State Bank of India (SBI) and Punjab National Bank (PNB), reduced its deposit rates by 25-50 basis points, and also extended special home loan schemes for few more months.

Following this Axis Bank announced to offer home loans at 8 per cent for the first year. A few days back HDFC Bank has slashed the interest rate on used car loans similarly PNB has also reduced auto loan rates by 50 basis points. Even the National Bank for Agriculture and Rural Development has reduced their refinance rate, whereas Punjab & Sind reduced interest rates of farm loans.

“One of the main reasons for softening of interest rates is weak credit demand. Also, there is adequate liquidity in the system. A bulk of the lending is happening for the short-term,” said Partha Mukherjee, president (Credit), Axis Bank.

By the end of October, the year-on-year growth of bank credit has dropped to a new 12-year low of 9.8 per cent. Correspondingly on Friday, banks invested Rs 54,470 crore through the Reserve Bank’s reverse repo window, mainly used to absorb excess liquidity, as against over Rs 1,00,000 crore between April and September.

Canara Bank chairman and managing director A C Mahajan stated, “Short-term interest rates have declined because of low credit flow, excess liquidity and the absence of investment options. But they will go back to the original levels once credit flow improves”.

The reserve repo rate being at 3.25 per cent and after investing in a liquid fund scheme obtained an annualized return of 5 per cent, according to banks short-term credit at 7 per cent a year is the better option. On the other hand RBI is not happy with banks increasing their coverage to liquid mutual funds.

“The rates are liquidity-based and not market-linked. It has to be compared with a bank’s treasury operations,” said a public sector bank chief.

Bank of India executive director B A Prabhakar pointed out that in the first half the pressure of government borrowings which had increased, has now eased. He added, “This takes away the trigger for bond yields to move northward”.

Moreover the profit on 10-year paper has also dropped from 7.35 per cent on October 27 to 7.18 per cent on Friday. A section of bankers pointed out indication of easing of rates are coming from the bond markets but according to others the lower profits amounts to nearly 85 per cent of the government’s record borrowings of Rs 4,51,000 crore.

Thus, this is also the reason for cut in deposit rates over the last 12 months. Since April SBI has reduced deposit rates eight times in order to reduced the cost and improve margins.

“If there is no demand for credit, why should banks take deposits at a higher rate of interest? Unless credit expansion takes place, there is no use for deposits at a higher interest... The rate of interest is a function of demand and one of the options is to reduce it,” said Andhra Bank chairman and managing director R S Reddy.

Prabhakar explained as companies are able to strike external commercial borrowings and institutional investors are raising equity, interest rates are likely to remain low for a few more months.

“A shift from short-term to long-term borrowing will not happen until the fourth quarter, as interest rates are expected to rise once demand picks up,” said an executive with a large private sector bank.

But there is another side. “Customers are able to reduce their interest cost, but banks have to worry about the asset quality. At the present rate, the credit risk is not getting factored into the pricing,” said another banker.