Linking lending rates to external benchmarks

Instead of moving the whole banking system to a new lending regime, a practical way forward would be to let the banks continue with the existing system, duly addressing its weaknesses, if any

The recent proposal by the Reserve Bank of India (RBI) to link all new floating rates, retail (housing, auto etc.) and micro and small enterprise to market determined benchmarks from April 1, 2019, is a paradigm shift for Indian banks. While the RBI believes the new regime will ensure transparency, standardisation, and ease of understanding of loan products by borrowers, the majority in the banking community can foresee a plethora of challenges going forward.

To be fair to the RBI, the external benchmark is popular in Western countries for setting lending rates because banks there depend largely on short-term funds.