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New lending rate regime could be RBI's New Year gift for home loan borrowers

Renu Yadav     December 19, 2018

The Reserve Bank of India (RBI) has asked banks to benchmark the lending rate on all floating-rate loans with an external benchmark rate from April 2019 onwards, thus replacing the current MCLR (marginal cost of funds based lending rate) regime. This will be applicable on all floating-rate loans given to retail borrowers and micro and small enterprises.

That said, now your home loan rate will be fixed on the basis of the benchmark rate along with the spread that depends on your credit score and other factors. Currently, home loan rates are calculated on the basis of MCLR of the bank plus spread. Every bank fixes its own MCLR based on the cost of funds. Bank charges a spread over and above this MCLR from the borrowers. This is the first time RBI has asked the banks to benchmark the lending rate with an external benchmark.

This new regime is likely to bring in more transparency and better transmission of monetary policy rates. "The move to external benchmark will ensure greater standardisation and higher transparency in lending rates for new borrowers," says Ratan Chaudhary, AD and Head of Home Loans,

The external benchmark can be RBI's repo rate, 91 or 182 days treasury bill yield produced by the Financial Benchmarks India Private Ltd (FBIL) or any other benchmark market interest rate produced by the FBIL. The banks will have the full discretion to decide the spread, but it will remain the same during the tenure of the loan unless there is a marked change in the credit assessment of the borrower. Within a loan category, bank will be allowed to use only one benchmark.

"With the external benchmarking, the interest rate gets tied to the benchmark. The benchmark would be loaded with a spread that remains constant throughout the loan tenor. The spread covers risk and tenor premiums, negative carry on CRR, operation costs, etc. So, any change in the benchmark will directly reflect in the loan rates. This makes it more transparent," says Navin Chandani, Chief Business Development Officer,

MCLR was introduced in April 2016 in order to bring in more transparency in the way banks charge interest rate from their customers and also make the process of monetary transmission efficient. MCLR replaced the base rate mechanism where banks used to charge base rate plus spread from their customers. Every bank used to have its own base rate.

But the introduction of the new external benchmark regime within three years of introducing the the MCLR indicates the RBI wasn't satisfied with the transmission of monetary policy by the banks under MCLR regime. During the year 2018, RBI has increased the repo rate twice by 25 basis points each (100 basis points is equal to one per cent) from 6.0 per cent to 6.50 per cent. In the same period, MCLR of SBI has gone up by 55 basis points from 7.95 per cent to 8.50 per cent since November 2017.

In August 2017, RBI had constituted a committee headed by Dr Janak Raj to suggest appropriate modifications in MCLR regime to strengthen the monetary transmission regime. The current change is a result of the recommendation made by this committee. The RBI will come out with the final guidelines by the end of December 2018, which will bring in more clarity.

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