The Base Rate debate

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It remains to be seen if home loan borrowers will benefit from the new benchmark

Banks all over the globe have been cleverly avoiding the public gaze till very recently, whether it is for presenting the accounts, cost of funds, interest mechanism, handling of bad debts, and similar crucial aspects of their operations. This has been true in the case of Indian banks too. Whenever a new guideline for transparency comes from the RBI, the public hopes for more benefits such as increase in interest on deposits, reduction in interest on borrowings etc. The home loan buyer is perhaps the target group, consisting of a good number of senior citizens, NRIs and the like who look forward to more and more benefits with each and every change in systems or procedures, akin to policy changes.

The recent changeover by banks to the Base Rate has also attracted much enthusiasm among prospective borrowers, and even the existing ones. The ‘Base Rate' now being widely publicised is the successor to the Prime Lending Rate (PLR), which has been in vogue for over a decade now.

Before the PLR came into operation, there used to be a linkage with the Bank Rate or the RBI rate, “rising and falling there with…” For banks in the State Bank group, the SBI Rate was the prime rate, which turned out to be an independent rate, not comparable to the other banks' rates.

After the birth of the PLR, some banks started lending at sub-PLR, which was not viewed favourably by the RBI as it lead to unhealthy competition between banks. In order to remove this tendency, the RBI set up a committee under the chairmanship of Deepak Mohanty to examine the feasibility of arriving at a “benchmark Prime Lending Rate” and the present Base Rate is the result of that committee's recommendation.

The SBI was the first bank which announced the Base Rate, followed by large PSBs. Meanwhile, the RBI prescribed that all banks will announce their Base Rate and it will be applicable from July 1, 2010.

What can be the effect of the Base Rate on the borrowers?

As the rate is based on the cost of funds of each bank, liquidity levels after the compliance with statutory requirements like CRR and SLR, and pre-tax return on assets, the benefits to borrowers need not be uniform in all banks. Most probably, the banks with less cost of funds and higher return on lendings may be able to offer a lower Base Rate.

Effect on home loans

The home loan segment in recent times has been having either the fixed rate or the floating rate. Fixed rate may attract a change only when there is a ‘review' or at the ‘reset time' forming part of the conditions covering the loan document. For floating rate, a change may come when there is a renewal of the facility.

Since the Base Rate itself is reworked every three months, there cannot be a modification in the interregnum. In short, the enthusiasm among some borrowers or those intending to go in for a loan on the presumption that the Base Rate will be advantageous may be misplaced optimism.

When we compare the PLR and the Base Rate announced by banks so far, the latter is a shade lower.

But, in the long run, whether it will be to the advantage of clients or the banks, especially in the light of the rate hike the RBI has effected after the quarterly Credit Policy review announced on July 27, remains to be seen.



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