With cumulative reduction in the policy repo rate by 135 basis points (bps) during the current easing cycle so far since February 2019, most banks have reduced their term deposit rates; some banks have also reduced their savings deposit rates. Overall, the weighted average domestic term deposit rate (WADTDR) declined by 39 bps between February 2019 and January 2020. The weighted average lending rate (WALR) on fresh rupee loans declined by 61 bps, while that on outstanding rupee loans declined by 12 bps between February 2019 and January 2020. During this period, the monetary policy stance was changed from calibrated tightening to neutral in February 2019 and then to accommodative in June 2019.
However, at the bank group level, the transmission to deposit and lending interest rates has been uneven, reflecting idiosyncratic factors, according to Reserve Bank of India’s recently released monthly bulletin. In the case of WADTDR, foreign banks saw the largest decline of 124 bps, followed by private sector banks (51 bps) and public sector banks (29 bps). Again, in fresh rupee loans, the largest drop in the WALR was observed in foreign banks (105 bps), followed by public sector banks (62 bps) and private sector banks (50 bps). Foreign banks noticed the maximum decline of 46 bps, yet again, on outstanding rupee loans, with public sector banks going with 21 bps fall during the period between February 2019 and January 2020.
The decline in the WADTDR on outstanding deposits was muted till September 2019. However, following the introduction of linking new floating rate loans to retail and micro and small enterprises (MSEs) to an external benchmark, effective October 1, 2019, the WADTDR declined sharply by 32 bps between October 2019 and January 2020 as against the decline of just 7 bps over the previous eight months, the bulletin added.
While the transmission to money market and long-term rates has been swift and almost complete, the transmission to deposit and lending interest rates has been muted. A key factor delaying the quick and adequate transmission to banks’ lending rates has been long maturity profile of bank deposits at fixed interest rates, it said. Even otherwise, banks are slow in adjusting their deposit interest rates. Under the external benchmark system introduced effective October 1, 2019 for select categories of loans, transmission to banks’ lending rates will no longer be contingent upon adjustment in deposit interest rates. Instead, changes in lending rates will induce changes in deposit interest rates.
At a disaggregated level, 74 banks reduced their one-year marginal cost of funds-based lending rates (MCLRs), while five banks raised their one-year MCLRs. While 18 public sector banks and 17 private sector banks reduced MCLRs, three private sector banks increased their one-year MCLRs. According to the bulletin, the median WALR charged by private sector banks was higher than that of public sector banks due to their higher one-year median MCLR as also the higher spreads charged by them over MCLR. Higher MCLR reflects higher cost of funds, while higher spreads reflect divergent loan portfolios and quality of loan portfolio. Overall, transmission to bank lending rates, particularly on outstanding rupee loans, has been inadequate despite some improvement seen recently.
In India where the banking system constitutes a predominant segment of the financial system, efficient transmission to bank deposit and lending interest rates is the key to achieving the ultimate objectives of monetary policy.