The Reserve Bank of India (RBI) on Thursday hiked policy interest rates, sending a message to banks that they need to do the same for their loans. The silver lining is that interest rates on fixed deposits will also rise from the current 7-8% levels.
The RBI increased the repo rate (the rate at which it lends money to banks) by 25 basis points to 6% and the reverse repo rate (the rate at which the RBI takes out excess cash in the banking system) by 50 basis points to 5% with immediate effect.
The central bank did this primarily to contain inflation and to ‘normalise’ policy rates, considering the speed at which India’s economy is growing. Interest rate is a monetary tool used by central banks to ensure that a fast-growing economy doesn’t get out of hand — primarily, that prices of goods, or inflation, don’t spiral out of control due to excessive demand, the hallmark of fast-growing economies.
This is done essentially by controlling the amount of money floating in the economy by raising or lowering interest rates. When an economy declines, the opposite happens — central banks lower interest rates so that people are persuaded to buy goods and thereby generate demand.
“The RBI believes inflation has plateaued (and the declining trajectory inline with its projection), but it highlights that it will remain at ‘unacceptably’ high levels for a few more months.
It hence believes that there is a need for continued policy response to contain inflation and anchor inflation expectations,” said Ashutosh Datar, economist with the brokerage IIFL.
“The broad indication of the RBI action on Thursday is that lending rates will rise. We will take a call in a few days on increasing our personal and home loan rates because the impact of this rate hike will have to be passed on to consumers,” said Kamlesh Rao, executive vice president (personal loans and home finance), Kotak Mahindra Bank.
The timing of the hike will vary from bank to bank, depending on the cost of their money.
“On the interest rate scenario there is definitely an upward bias. But the hike may not be immediate. It will depend upon the credit pickup. Initially, it may be a hike of 25 basis points,” said MD Mallya, chairman and managing director, Bank of Baroda.
It seems both the RBI and the government want fixed deposit rates to rise.
“If bank credit is not to become a constraint on growth, real interest rates need to move in the direction of encouraging bank deposits,” the RBI said on Thursday.
On Wednesday, the government raised the employees provident fund rate by 100 basis points to 9.5%.
Banks had already resorted to hiking their benchmark prime lending rate, or BPLR, in August, citing reasons that their costs were going up. In the near future, they may hike it further and may even hike the base rate, which came into existence from July 1 this year.
“The BPLR may be hiked further as most of the lendings happen through it, and there is also the likelihood that the base rate may be hiked in the next quarter since banks have the option to change the base rate every quarter for the first year,” said Deepak Tiwari, banking analyst at KR Choksey Shares & Securities.
“Borrowing rates will go up for both consumers and developers,” said Shobhit Agarwal, Joint Managing Director (Capital Markets), Jones Lang LaSalle India, a real estate consultancy. Conversely, this could mean demand for homes, and therefore their prices, may decline.
“The projects that are already priced high, the impact in terms of demand erosion will be higher. We don’t see much impact on low-cost housing, that is Rs25-50 lakh purchases,” said Agarwal.
But teaser home loan rate — where you pay a low interest rate in the first year and more later — won’t be discontinued as they are a hot favourite among borrowers.
“I expect teaser loans to continue as they are so popular with people. But I think banks may continue those schemes with a slight increase in rates, said Harsh Roongta, CEO of apnapaisa.com, a personal finance advisory. The State Bank of India (SBI) is offering teaser home loans till September 30 and the committee will take a decision on whether to extend it further or not on September 28, said a senior SBI official.