With the hike in repo rates by the RBI, whatever hopes one would have had of the lending rates becoming softer this year seem to have evaporated

The undertone of the country’s economic situation is a cause of concern which is being reflected by the stance taken by the central bank — being rigid and unyielding with the interest rates. Yet again RBI took a tough decision this week during its monetary policy announcement by increasing the repo rate (rate at which banks borrow money from the RBI on short-term basis to meet their funding requirements) by 25 basis points (0.25 per cent) to eight per cent from the existing 7.75 per cent.

This would mean the borrowing cost for the banks would go up, which most banks would start passing on to the customers (who take loans). Whatever hopes one would have had on the lending rates becoming softer this year seems to have evaporated with this hike.

Pressure on borrowers?

Over the last couple of months, to boost the market sentiments, most banks had decreased the lending rates to healthy levels of 10 to 10.25 per cent for loans up to Rs.30 lakh. This reduction was in line with the liquidity infusion by the government into the banking system and softer stance on CRR and repo. But now, with this unexpected hike and the RBI being hawkish on the rates, the lending rates too are expected to turn northwards which would surely put huge pressure on borrowers with higher EMI outflows, denting their purchasing power and lowering their savings and investment capacity.

Since October 2005 the repo rate (RBI lending rates to banks) has been on a swing; the rates have fluctuated from 6.25 per cent in October 2005 to 7.25 in October 2006 to 7.75 during March 2007 and the highest being nine per cent during July 2008 (the subprime crisis year). From then on the rates have gradually come down before being hiked during October 2011 (8.50 per cent) to the current year eight per cent.

Inflationary trends

Over the last two years the inflationary trends have severely affected the economy with lower income earning capacity (annual income growth of individuals has decelerated), fractured government policies, poor policy implementation, slowing investments by corporates, devaluation of the rupee and such other factors leading to a crisis-like situation. With spiralling construction costs and higher borrowing rates the home loan borrowers, existing as well as new, have borne the brunt; their lifetime dream of owning a house has taken a severe beating with no respite from the bombardment of higher EMI outflow and lower saving capacity.

The government says it forecast a healthy GDP for the future years, which sounds more like a political statement rather than a practical one. With no capex plans taking wings due to prevailing poor economic conditions, corporate growth has slowed down significantly, leading to unemployment and income stagnation. Mr. Raghuram Rajan has stated in his latest policy announcement that he would not consider increasing the rates in the near future if the inflation comes down to acceptable levels which could also mean that the rates would remain tight unless the inflation rate recedes. On the home loan front, floating rate still looks to be a good option to consider, which would be beneficial once the rates start getting lower from the current levels.