Change In Policy Rates Since May 2022 Affected Borrowing, Deposit Patterns, Says RBI Report

A change in policy rates over the last year has significantly affected lending and borrowing patterns across India, impacting both borrowers and lenders, the Reserve Bank of India (RBI) has said in its recent report titled ‘State Of The Economy’.

The RBI has increased the repo rate, the rate at which it lends money to commercial banks, by 250 basis points (bps) since May 2022. An increase in repo rate translates into a hike in the lending as well as deposit rates. One bps equals 0.01 percentage point.

Shift In Loan Composition

One of the key findings of the report is the transformation in the composition of loans concerning interest rates. In March 2022, a staggering 53 per cent of loans were available at below 8 per cent. However, by June 2023, this percentage had dwindled to just 18 per cent. This significant shift highlights the impact of recent policy rate hikes on borrowing costs, the report says.

Term Deposits Gain In Popularity

The relative attractiveness of term deposits is closely linked to the prevailing interest rate scenario. With the policy rate on the rise, the composition of bank offerings has also shifted. As the share of loans with lower interest rates dwindled and higher interest loans became more prominent, term deposits offering returns of 7 per cent and above saw increased popularity.

Investors seeking stable and competitive returns have turned to term deposits, considering them a more appealing option compared to other forms of investment. This shift in preference reflects the belief that term deposits can provide a reliable source of income and capital preservation amid increasing interest rates, underlining their relative attractiveness in the evolving financial landscape.

Changes In Domestic Term Deposit Rates

On the deposit side, the report reveals that the weighted average domestic term deposit rates (WADTDR) on both fresh and outstanding deposits increased significantly.

Fresh deposit rates surged by 232 bps, while outstanding deposit rates rose by 151 bps during the same period. This trend indicates the competitive landscape among banks to attract deposits, given the rising interest rate environment.

Repo-Linked External Benchmark-Based Lending Rates

In response to the 250 bps increase in the policy repo rate since May 2022, 32 domestic banks have revised their external benchmark-based lending rates (EBLRs) upwards by a similar magnitude. This move by banks indicates their decision to align lending rates with the changing interest rate scenario.

Changes In Marginal Cost Of Funds-Based Lending Rates (MCLRs)

The report also highlights that the one-year median marginal cost of funds-based lending rates (MCLRs) of scheduled commercial banks (SCBs) has increased by 155 bps between May 2022 and August 2023. This reflects the proactive approach of banks in adjusting their lending rates in response to RBI’s policy actions.

Impact On Weighted Average Lending Rates (WALRs)

The weighted average lending rates (WALRs) on both fresh and outstanding rupee loans have also witnessed substantial increase, the report says. During the period May 2022 to July 2023, WALRs on fresh rupee loans increased by 193 bps, while WALRs on outstanding rupee loans were up by 112 bps. These increases demonstrate the effective transmission of policy rates to lending rates in the banking sector, the report adds.

Differential Transmission Among Bank Groups

The transmission of interest rates and changes in rates was not uniform across different bank groups, according to the report.

Public sector banks experienced higher increases in WADTDR on fresh rupee deposits and WALR on fresh rupee loans. In contrast, private banks witnessed higher increases in WADTDR on outstanding deposits and WALR on outstanding loans. These differences reflect variations in the strategies adopted by different types of banks to navigate the changing interest rate landscape, the report adds.

Consequently, the rise in the policy rate has also resulted in significant adjustments in lending and deposit rates, impacting both borrowers and savers, the report further says.

As the economy continues to adapt to changing interest rates, it will be crucial for banks to maintain a delicate balance between attracting deposits and offering competitive lending rates to sustain growth and profitability in this dynamic environment.