RBI to tweak Indian banks' lending rules, Rajan laments slow policy transmission

MUMBAI (Reuters) - The Reserve Bank of India will soon tweak a lending rate mechanism that commercial lenders began using last April, Governor Raghuram Rajan said on Tuesday, adding that he took a dim view of banks' failure to lower lending rates by more after past reductions in the central bank's policy rates.

Even as the central bank has cut policy rates by a total 150 basis points since January last year, commercial banks have passed on only about half of that to the end-customers.

To quicken the pace of transmission, the regulator directed the lenders to move to a new methodology called the Marginal Cost of Funds Based Lending Rate (MCLR), effective last April.

That too hasn't yet led to meaningful rate cuts, irking Rajan who steps down from his position on Sept. 4.

"Despite easy liquidity, banks have passed past rate cuts into lending rates only modestly," Rajan told a news conference on Tuesday as the central bank held key policy rates following a policy review.

Rajan noted bankers initially blamed a lack of liquidity in the system for holding rates high.

"Now I hear from some that it is fear of FCNR(B) redemptions that is making them reluctant to cut rates," he said, referring to the outflow of $26 billion of foreign currency deposits from banks when these mature in the September to December time frame.

"I have a suspicion that some new concern will crop up once the FCNR(B) redemptions are behind us," Rajan said, hoping for transmission to improve as banks clean up their bad loans and the economy picks up.

India's largest lender State Bank of India said separately on Tuesday that it expected transmission of rates to happen gradually over the next few months as credit growth picks up pace.

(Reporting by Devidutta Tripathy and Suvashree Dey Choudhury; Editing by Simon Cameron-Moore)