CORRELATION
BETWEEN RBI’S REPO RATE AND BANKS’ BASE RATE
BY---V Subramanian
I wish to enlighten our
readers on certain points which are not available in the websites of the Banks
in India (Public sector/Private sector).
- It
is common knowledge that any change in the lending rate (Base Rate) will
affect the interest offered on deposits and vice versa.
- Revision
if any in the term deposits raises a hue and cry from small investors who
greatly depend upon the interest received on their term deposits placed
with the banks.
- Unlike
the loans and advances which have floating rates (unless otherwise specified), the term deposits of banks in
India have a fixed rate of interest. In other words, the rate contracted
at the time of acceptance of term deposits shall continue to be the same till
the maturity of such deposits
- Advances
carrying fixed rate of interest constitute a miniscule portion in the
credit portfolio of each bank. A
few examples of fixed rate advances are DRI advances, Agricultural credit
up to certain amount, export credit (subject to certain condiaitons),
housing loans with fixed rate etc.
- Any
reduction in the rates of interest on Term Deposits will only be
prospective and hence be applicable on the deposits accepted subsequent to such reduction only.
- Therefore,
the cost of funds remains static in the short run, even if the interest on
Term Deposits is brought down for future deposits.
- The
repo rates do not affect the cost of funds for the banks because the
volume of borrowings made by the banks from RBI in comparison to their
deposits segment is very small.
- Therefore
it is incorrect and misleading if one says that whenever the Repo rates
are reduced by RBI, it will have a salutary effect on the cost of funds
for the banks.
- The
banks can realign their interest rates only after 6 months to 1 year
period, to pass on the benefits of reduction in Repo rates to their
borrowers.
- Such
being the case, banks cannot bring down the Base Rate immediately, even if
they want to. If they do, it will
impact their profitability with immediate effect.
- Banks
therefore usually strive to mobilise more and more Current Deposits (which are interest free) and
Saving Bank Deposits (which have a
low rate of interest) with a view to bring down their average cost of
funds. These are known as low cost deposits or CASA (Current Accounts and
Savings Accounts).
- By
increasing the proportion of CASA deposits in the overall composition of
deposits, the average rate of interest expended comes down and banks can
have the leverage to lend at lower rates.
But, this is a real challenge for every bank today.
- On other side, no
bank has, to my knowledge, openly announced its policies and rules with
regard to the investments they make –
(a)
Especially, the type of investments (Deposits held with other banks, Government Promissory Notes, Treasury
Bills, Bonds issued by the Central and State Governments and local bodies,
Equity, Corporate Bonds and Debentures, Mutual Funds and money lent to other
banks in money market or forex market)
(b)
their nature (held for trading, available for sale and held to maturity)
(c)
tenor of these investments
(d)
their composition and
(e)
the minimum anticipated
rate of return
- Similarly,
the significant losses incurred in a few significant treasury transactions
are never disclosed. Only the net profit made from treasury operations at
the end of each quarter is disclosed.
- Again,
the distinction between Rupee Treasury and Forex Treasury operations is
not properly highlighted or
explained by the banks in their notes on accounts and foot notes to the
balance sheets and their annexures.
The
Finance Minister tom toms that since RBI has reduced Repo rates several times
during the recent past, the banks must reduce their Base Rate. He openly cajoles and pressurizes them to
fall in line. He knows the serious
limitations banks have in this regard.
Yet, he merely plays into the hands of the corporate bigwigs and MNCs.
Date: 19-07-2013
V Subramanian
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