The finance ministry has told public sector banks to bring down interest rates by an equal magnitude if the Reserve Bank of India (RBI) cuts key policy rates in its mid-quarter review, scheduled tomorrow.
The move comes on the back of banks reluctance to cut rates after RBI slashed its repo rate, at which it lends overnight funds to banks, by 50 basis points (bps) to eight per cent in April. Most public sector banks had reduced their base rate, the benchmark rate to which all loan rates are linked, only marginally by 10-25 bps following the RBI action. State Bank of India (SBI), the country’s largest lender, did not alter its base rate after RBI’s cut, though it had effected steep cuts in loans to segments like agriculture, education and small and medium enterprises (SME). The Base rate of SBI, at 10 per cent, is lowest among the public sector banks.
According to bankers, the ministry has now said banks should pass on the benefit “entirely” to customers if RBI reduces rates tomorrow. Market participants expect the central bank to cut its key lending rate by 25 bps to boost economic growth.
India’s gross domestic product growth rate slowed to a nine-year low of 5.3 per cent in the March quarter.
“In the event RBI cuts the CRR (cash reserve ratio, or the portion of cash banks are required to keep with RBI) and the repo rate by 25-50 bps, the finance ministry wants banks to bring down the lending and deposit rates by the same margins,” said a senior public sector bank official on condition of anonymity. He said what had not gone down well with the ministry was the pace of monetary transmission mechanism following RBI’s rate action.
Banks were reluctant to cut rates as they say the cost of deposits would not come down in a hurry.
An SBI official said it would be difficult to cut the base rate in sync with RBI’s rate cut, as the former factored in the cumulative cost of funds. “The rates on the deposits have been high in recent quarters. Our cost of funds has just about stabilised. The bank reduced interest rates on deposits for shorter tenures by 25 basis points last week. Also, slashed lending rates in the SME and agriculture segments by 50-350 basis points on Thursday,” said the official, who did not want to be named. Added another banker, also on condition of anonymity: “The ministry feels at a time when credit demand is not picking up, banks should sacrifice some margins.”
However, the diktat from the ministry might be a bitter pill to swallow as banks have maintained the cost of funds are yet to come down following high deposit rates, which in turn are making a cut in the base rate difficult.
“For the cost of funds to come down, deposit rates need to be reduced, which is possible if there is a CRR cut. Then also it would take some time for the costs to come down. Once that happens, the base rate can be reduced,” said a senior official at a mid-size public sector bank.
