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BASE RATE - NEW SYSTEM OF LOAN PRICING BY BANKS IN INDIA
ABBREVIATIONS
USED:
BPLR : Benchmark Prime Lending Rate
BRS : Base Rate System
CASA : Current Account and Savings Bank
Accounts (low-cost deposits)
CD : Certificate of Deposit; CP : Commercial paper;
CRR : Cash Reserve Ratio; DRI : Differential Rate of
Interest
G-Sec : Government Security
LAF : Liquidity Adjustment Facility
of the RBI
MIBOR : Mumbai Inter-bank Offered Rate
PLR : Prime Lending Rate
RBI : Reserve Bank of India;
and, SLR : Statutory Liquidity
Ratio
Come July 2010, the
Indian banking sector is going to witness some fast moving and high-impact
developments. India’s banking regulator, Reserve Bank of India, is ushering in
a new Base Rate System (BRS) replacing the existing, outdated and
non-transparent Benchmark Prime Lending Rate (BPLR) system. At present,
sub-BPLR lending is rampant in the system. Once the new BRS comes into effect,
one expects that such a non-transparent and discriminatory system will come to
an end.
RBI, in April 2009,
announced the appointment of a working group to study the relevance of the
existing BPLR and suggest ways to improve the system. The Working Group, headed
by Deepak Mohanty, submitted its report in October 2009. Based on the
recommendations of the working group, RBI released its draft circular on BASE
RATE system on February 10, 2010. After getting feedback from banks and other
stakeholders, RBI had issued its Final Guidelines on April 9, 2010. The new
Base Rate System would be effective from July 1, 2010.
The Committee’s
recommendations have been partially accepted by RBI. In future, banks will not
be able to lend at rates below the Base Rate. The Base Rate will be based on
the bank’s cost of deposits/funds, negative carry on SLR/CRR, unallocatable
overhead cost and average return on net worth. The actual lending rate to be
charged to borrowers will be Base Rate plus product-specific overhead cost,
credit risk premium and tenor risk premium.
So far, no bank has
announced its Base Rate. They may announce the Base Rates in the next few weeks
before the deadline of July 1, 2010. The author expects the Base Rate range to
be between six and nine per cent due to wide differences in cost of funds, NPAs
and other costs.
This article examines,
in a comprehensive manner, the contents of the report of the working group and
the RBI’s Final Guidelines issued on April 9, 2010. The author has tried to
bring in all the aspects of the new system in a simple and easy language that
is understandable by all. The article is written in a question-and-answer
format, which is one of the easiest. The article’s highlights are:
ü
Why is RBI switching over to the new
Base Rate System
ü
What will be the impact of the new
system
ü
What are the RBI’s Final Guidelines
ü
Whether RBI has accepted the
Committee’s recommendations fully
ü
What are the differences between the
Committee’s recommendations and RBI’s Final Guidelines
ü
How is the Base Rate calculated
ü
How is the actual lending rate
worked out
ü
What is the likely range of Base
Rates by banks
At the end, the
following annexures are provided for additional reading:
I : Full
recommendations of the Deepak Mohanty Committee
II : Formulas for calculating the Base Rate
III :
TIMELINE: Evolution of BPLR since the early 1990s to 2004
IV : Some
important terms explained
1. What is Base Rate?
Base Rate is the minimum lending
rate below which a bank can not lend to borrowers except in a few cases. Base
Rate is being implemented in India
with effect from July 1, 2010. From that date, the existing Benchmark Prime
Lending Rate (BPLR) will cease to exist and the new Base Rate System will come
into effect. Base Rate will differ from bank to bank depending on individual
bank’s cost of deposits/funds and other criteria.
2. Why is RBI changing the loan pricing
system?
There is a public
perception that banks have been offering lower lending rates to big corporate
customers, while charging higher rates from small borrowers in the retail,
small business and agriculture segments. This amounts to cross-subsidization.
RBI has received several complaints to this effect from various industry bodies
and associations. RBI has taken this view into consideration. For several years
especially since the early 2000s, RBI had tried to bring in a transparent
system of lending rates in the banking system. After trying very hard, RBI has
genuinely felt that banks’ BPLRs are not transparent and there is a large-scale
sub-BPLR lending.
Downward stickiness in rates: RBI has
observed that whenever RBI raises policy rates and reserve ratios, banks are
quick to increase their loan rates. But, when RBI reduces policy rates and
reserve ratios, banks respond very slowly effecting decreased lending rates
with a considerable time lag. Such a phenomenon is called downward stickiness
in rates. RBI is of the view that it is adversely impacting the monetary
transmission mechanism in the banking system.
Due to competition, banks
have been offering loans to first class borrowers with high credit rating at
rates much below the BPLR in a non-transparent manner. RBI opines that banks’
lending at sub-BPLR rates is not in tune with the central bank’s objective of
bringing transparency to the loan rates. BPLR has fallen short of RBI’s
expectations to work as a reference rate or benchmark rate.
Keeping the above in mind,
RBI had set up, in April 2009, a committee under the chairmanship of Deepak
Mohanty to look into the existing BPLR system and suggest a suitable
alternative system for pricing bank loans. The Deepak Mohanty Committee’s
recommendations were made public in October 2009, which suggested shifting from
the current BPLR to a new system called Base Rate System. After getting
feedback from banks and other stakeholders, RBI had issued its Final Guidelines
on April 9, 2010.
3. What are Deepak Mohanty Committee’s
Recommendations?
The important
recommendations are:
ü
The
concept of BPLR is outdated and is out of sync with the present market
conditions and it should be replaced with a new Base Rate System
ü
Base
Rate would be based on one-year card rate on deposits, loss incurred by banks
for SLR/CRR, overhead cost and average return on net worth
ü
The
actual rate charged to borrowers would be Base Rate increased by operating
costs, credit risk premium, tenor premium and others
ü
Banks
should not lend below the Base Rate, except in a few cases
ü
At
present, the Government administers loans of up to Rs 2 lakh to small
borrowers, under priority sector & others. These administered rates shall
be discontinued and these loans can be brought under the Base Rate system.
(For full set of recommendations, see Annexure I at the end of
this article.)
4. Whether
RBI has accepted the recommendations?
RBI
had made public the report of Deepak Mohanty Committee in October 2009. After
getting feedback from banks, RBI had issued the final guidelines on Base Rate
System on April 9, 2010.
RBI’s
Final Guidelines on Base Rate are as follows:
ü
All scheduled
commercial banks should switch over from the existing BPLR system to the new
Base Rate System
ü
Base Rate System
is to be implemented from July 1, 2010
ü
Banks may choose any benchmark to arrive at the
Base Rate for a specific tenor (tenure of the loan)
ü
Banks are free to use any other methodology,
provided it is made available for RBI’s scrutiny
ü
All loans and advances should be linked to Base
Rate. But, there are a few exceptions meaning the following loans can be
disbursed without linking them to Base Rate:
i.
DRI advances
ii.
Loans to banks’
own employees
iii.
Loans to banks’
depositors against their own deposits
Effectively, it means banks can lend
below Base Rate in the above cases.
ü
Actual lending rate will be based on Base Rate
plus customer specific charges
ü
Until the new system stabilizes, banks are given
flexibility to change the benchmark and methodology any time between July and
December 2010
ü
Base Rate can be
used as a reference rate for floating rate loans
ü
The
current stipulation of BPLR as the ceiling rate for loans up to Rs. 2 lakh,
under priority sector and others, stands withdrawn wef July 1, 2010
ü
RBI will separately announce lending rates for
export credit (The details are given elsewhere)
ü
Banks have to review Base Rate on a quarterly
basis
ü
The Base Rate system will be applicable to new
loans as well as loans that have come up for renewal
ü
Banks shall exhibit the information on Base Rate
on their websites and at all their branches
The
RBI’s circular on final guidelines (RBI circular dated April 9, 2010) is a watered-down version of the Deepak
Mohanty Committee’s recommendations. The following table will help the reader.
As
can be seen from the above table, RBI has accepted the Committee’s
recommendations only partially. For calculating the Base Rate, RBI has given
greater flexibility to banks with regard to selecting a benchmark and
calculation methodology.
5. How is Base Rate different from BPLR?
Under the existing
Benchmark Prime Lending Rate (BPLR), banks can give loans below BPLR, called
sub-BPLR lending. In fact, as at the end of March 2009, 67 per cent of total
loans in the entire banking system were contracted at below BPLR. This is not
possible under the new Base Rate System. Banks are not allowed to lend at below
Base Rate. It is the minimum lending rate banks have to charge to their
customers. However, there are a few exceptions to this rule (the details are
given elsewhere).
6. How is Base Rate calculated?
Banks
are given freedom to decide their own Base Rates based on cost of deposits,
adjustment for CRR/SLR maintenance, unallocatable overhead costs and average
return on net worth.
According to RBI, Base Rate shall include all those elements of the
lending rates that are common across all categories of borrowers. Banks may
choose any benchmark to arrive at the Base Rate for a specific tenor to be
disclosed transparently. An RBI illustration, for computing the Base Rate is
given below:
BASE RATE
|
=
|
Cost of deposits/funds
|
+
|
Negative carry on CRR/SLR
|
+
|
Unallocatable overhead cost
|
+
|
Average return on net worth
|
Banks are free to use any other appropriate methodology, provided it
is consistent and is made available for RBI review/scrutiny.
Strictly speaking, the above is only for
illustrative purposes. RBI has given freedom to banks to use their own methods
for the calculation of Base Rate.
(The above terms are explained with
formulas in Annexure II at the end.)
7. Will customers be able get loans at
Base Rate?
RBI says that banks can
calculate the actual lending rate by adding customer specific charges to the
Base Rate.
Frankly speaking, Base Rate
is not equal to lending rate that will be charged ultimately to the customer.
While arriving at the actual lending rate, banks will add certain appropriate
charges specific to the customer, like overhead costs, credit risk premium and
tenor premium. As per the Deepak Mohanty Committee’s report, actual lending
rate can be arrived at as follows:
Actual lending rate *
|
=
|
Base Rate
|
+
|
Product specific operating cost
|
+
|
Credit risk premium
|
+
|
Tenor premium
|
* Actual lending rate that will be charged by banks to the borrowers
Credit risk premium: All
loans carry credit risk meaning that the borrower may fail to repay the loan.
The extent of credit risk differs from one borrower to another borrower
depending on the borrower’s overall credit standing and other factors. So, the
credit risk premium may be lower for a customer with good track record and may
be higher for customers with not-so-good record.
Tenor premium: In general, the longer
the maturity of the loan, the higher the risk for a lender. As such, banks usually
charge higher rates for long-term loans compared to short-term loans, other
things being equal.
Example: As all loans will be
linked to Base Rate, whenever a bank changes its Base Rate, the loan rates of
customers will change accordingly. Suppose Bank Efficient has kept its Base
Rate at 8 per cent. And the Bank Efficient has fixed car loans at Base Rate
plus 4 per cent (ie, 400 basis points), the car loan rate will be 12 per cent
(8 + 4). After a few months, Bank Efficient has revised the Base Rate to 9 per
cent, the car loan rate will be revised to 13 per cent (Base Rate plus car loan
premium = 9 + 4). Moreover, the Bank has got freedom to revise the car loan
premium. Depending on the market conditions and other considerations, the Bank
may decide to increase the loan premium to 5 per cent from 4 per cent. Then,
the car loan rate will be revised to 14 per cent (9 + 5).
8. What is transparency in loan pricing?
Transparency
in bank lending means that banks should be able to provide adequate information
to borrowers so that the latter fully understand the terms and conditions.
Higher levels of transparency can be achieved by disclosing information on how
the loan rates are arrived at by the bank. Transparent lending is equal to
borrowers correctly understanding the loan pricing mechanism and other fees
before signing the loan agreement. Banks should not indulge in charging any
hidden costs and unexpected rate increases. To achieve greater levels of
transparency, banks shall ensure that all charges and possibility of rate
increases are made clear to the borrower at the beginning of the agreement.
Given
the large proportion of sub-BPLR lending by the banking system, concerns have
been raised on the transparency aspect of computation of BPLRs by banks.
9. What is monetary policy transmission?
Whenever
RBI raises or lowers policy rates, banks are expected to revise their interest
rates in tune with the RBI. The intentions of RBI will be carried through the
commercial banks to the entire economy. Banks pass on the RBI’s policy measures
either by increasing the lending and deposit rates or by lowering them in tune
with the RBI’s policy measures. This is called Monetary Policy transmission.
But, this monetary transmission is not happening in actual practice due to a
variety of reasons. Banks usually respond with a considerable time lag to the
changes in RBI’s policy rates. Whenever RBI raises policy rates, it is observed
that banks raise their lending rates immediately. However, when RBI lowers
policy rates, banks act slowly and lower their loan rates with a substantial
time lag. Such downward stickiness in rates is creating problems for RBI in its
objectives of achieving price stability and growth.
Monetary
policy transmission is the responsiveness of the banking system to the changes
in the monetary policy of the RBI. RBI raises policy rates and reserve ratios
or decreases them depending on the macro economic conditions, inflation rate,
government policies and others.
10. What type of customers can get loans
at below Base Rate?
As stated above, there are
a few exceptions to Base Rate rule which forbids banks from lending below Base
Rate. In the following cases, RBI has permitted banks to fix rates without
linking them to Base Rate:
- Loans under the DRI
scheme
- Loans to banks’ own
employees
- Loans to banks’
depositors against their own deposits
11. What will be the advantages of Base
Rate System?
v
RBI has decided
to replace the BPLR with Base Rate to make credit pricing more transparent
v
It is expected that higher transparency will
benefit all kinds of borrowers irrespective of the size of the loan
v
The Base Rate system is aimed at enhancing transparency in lending rates
of banks and enabling better assessment of
transmission of monetary policy
12. What will be the impact of the new
method?
The
biggest impact is that the new Base Rates from commercial banks will be much
lower than the existing Benchmark Prime Lending Rates (BPLR). Due to heavy competition
in the industry, some aggressive banks, whose cost of deposits/funds is lower
compared to industry levels, may peg their Base Rates very low.
The
new Base Rate System (BRS) is expected to impact the banks in different ways
depending on their cost of deposits, overhead cost, their customer profile,
geographical concentration and others. Likewise, the BRS will impact the
debtors in various ways.
One
biggest benefit with the BRS as cited by policymakers and experts is that it
will help the Reserve Bank of India
to transmit the changes in policy rates (Repo and Reverse Repo under LAF) in a
better manner. Under the BPLR, monetary policy transmission is weak due to lack
of transparency in BPLR. This has been brought out elaborately by Deepak
Mohanty Committee’s Report. Now, with the BRS, RBI expects that banks will
respond immediately to RBI’s policy rates.
Let me try to briefly examine the
impact of BRS:
Ø The Base Rate
System is expected to usher in a transparent system meaning borrowers will be
able to understand how their loan rate is arrived at
Ø
After the
implementation of Base Rate, banks will stop fresh lending below their BPLRs as
they shift to Base Rate System
Ø
Highly-rated
companies have been borrowing at sub-BPLR rate for a long time due to
competition among banks and this practice may come to an end after the Base
Rate kicks in
Ø Once BRS comes into effect, rates for
short-term bank loans to corporates could rise. However, large and reputed
companies with strong balance sheets may explore Commercial Paper (CP) route.
Hence, the BRS may not change loan rates for big companies, like, RIL, L&T,
ONGC, as they have direct access to CP or bond markets.
Ø Small and Medium
Enterprises (SMEs) may get favourable rates. The impression in public that SMEs
and small borrowers are subsidizing the corporate loans. This type of
cross-subsidization will stop from now.
Ø This is a step
towards further deregulation of interest rates as banks will stop giving
concessional rates to loans below Rs 2 lakh (especially priority sector loans
up to Rs 2 lakh). RBI has given freedom to banks to charge commercial rates for
loans below Rs 2 lakh at rates linked to base rate. With this, RBI wants to
increase the credit flow to small borrowers.
It
remains to be seen how the Base Rate will impact the credit offtake. As of now,
credit growth is sluggish due to a variety of
reasons. As banks will not be able to lend below Base Rate, corporates
will turn toward Commercial Paper route and banks may not be able to lend their
surplus funds in the short term. One piquant situation may be that borrowers
with ‘AAA’ rating will approach the markets through the Commercial Paper (CP)
route. Banks will invest in these CPs and such lending through CP route will
not be part of their ‘Advances,’ but part of ‘Investments.’
Alternatively,
banks may be tempted to park their surplus with the Reverse Repo window of the
RBI’s LAF or invest in G-Secs or liquid schemes of mutual funds.
13. To what kinds of Banks the Base Rate
is applicable?
The Base Rate is made
applicable by RBI to all scheduled commercial banks (ASCBs) in India,
except Regional Rural Banks (RRBs).
14. Whether banks have fixed their Base
Rates?
So far, no bank has fixed
its Base Rate. Another two weeks time is available for banks to announce their
Base Rates before the deadline of July
1st. State
Bank of India, India’s
biggest lender, has indicated that it may link its Base Rate to cost of
deposits and the Base Rate may be around eight per cent. Average cost of deposits
for SBI is 5.80 per cent as on March 2010. And its cumulative net interest
margin (NIM) is 2.66 per cent for the financial year 2009-10.
Union Bank of India
has hinted that it may set the Base Rate between 8.25 and 8.75 per cent. According
to rumours, it seems HDFC Bank is likely to fix its Base Rate at around six per
cent. It may be noted that its Net Interest Margin has traditionally been much
higher at around 4.0 per cent. In fact, for the year 2009-10, the net interest
margin is 4.3 per cent for the bank. This is due to very low cost of deposits,
which is at 4.7 per cent for 2009-10.
Overall, the Base Rate
range may be between six and nine per cent for most of the commercial banks
initially.
15. What is the lending rate for export
credit?
In its circular dated April
9, 2010, RBI had stated that it would announce the rates for export credit
separately. And as promised, RBI had issued a circular on April 23, 2010
stating that banks should fix their lending rate to export credit (both
pre-shipment rupee export credit and post-shipment rupee export credit) at or
above the Base Rate. The revised instructions will be effective from July 1,
2010.
16. Why is
sub-BPLR rampant in the banking system?
Keeping
in view the international practice and to provide further operational
flexibility to commercial banks in deciding their lending rates, RBI in April
2001 decided to make PLR a benchmark rate. Accordingly, commercial banks were
allowed to lend at sub-PLR rate for loans above Rs.2 lakh. In 2003, RBI replaced
the PLR system with BPLR. In the beginning, it was expected that sub-BPLR
lending would be marginal. But from 28 per cent of total bank credit in March
2002, sub-BPLR lending had gone up to 77 per cent in September 2008 before
declining to 67 per cent in March 2009.
On
account of competitive pressures, banks were lending a part of their portfolio
at rates below their BPLRs. A large loan offered to a highly rated borrower may
be offered at a lower rate below the current all-in-cost BPLR due to little risk
and savings on account of processing and monitoring costs. Although justifiable
to some extent, such sub-BPLR lending on a large scale has created a perception
that large borrowers are being cross subsidized by retail and small borrowers.
(The timeline for the evolution of PLR/BPLR system is given in
Annexure III.)
17. What is downward stickiness in rates:
The Working Group has
observed that whenever RBI raises policy rates and reserve ratios, banks are
quick to increase their loan rates. But, when RBI reduces policy rates and
reserve ratios, banks respond very slowly effecting decreased lending rates
with a considerable time lag. This is called downward stickiness in rates. RBI
has opined that this downward stickiness is adversely impacting the monetary
transmission mechanism in the banking system.
One
of the major reasons for downward stickiness is the large share of deposits
(major portion consists of term deposits with fixed tenure) contracted at high
rates in the past. In response to RBI’s reduction of policy rates, banks are
not in a position to reduce their lending rates as their cost of funds will
remain high for quite some time during the early part of a declining interest
rate environment. The marginal cost of funds is more relevant for banks for
pricing current loans/advances rather than the average cost which is computed
on the basis of the cost of all outstanding purchased and borrowed liabilities
reflected in the balance sheet.
The
downward stickiness in BPLRs is also attributed to several other factors such
as (i) the administered interest rate structure on small savings, which
constrains the reduction in deposit rates; (ii) concessional lending rates
linked to BPLRs for some sectors, which make overall lending rates less
flexible; and (iii) persistence of the large market borrowing programme of the
government, which hardens interest rate expectations.
18. What is
the criticism of the Base Rate System?
The
new Base Rate System has received more brickbats than bouquets from several
industry watchers:
- U.R.Bhat, Dalton
Capital Advisors: “The prohibition from lending below the base rate
virtually bids goodbye to the principles of free market…Banks may need to
lend short-term to low-risk borrowers at rates below the Base Rate
depending on the market conditions…” (Economic
Times, March 8, 2010).
- Saurabh Mukherjea,
Noble Group: “Seventy per cent of the Indian banking system is in the
hands of public sector banks. These banks’ profits will come under
pressure as the interest rate cycle moves north…Hence, by diminishing the
intensity of competition in the banking sector, RBI is taking care of the
interests of public sector titans like the State Bank of India and Punjab National
Bank…” (Outlook Profit, 2nd
April 2010)
19.
CONCLUDING REMARKS
The
Base Rate System is only starting from July 1, 2010. The RBI has given a
cooling period of six months till December 31, 2010, which gives banks
flexibility to experiment with various calculation methods and Base Rates,
before settling for a particular method or a specific Base Rate. As such, the
system will evolve over a period of time.
We
can definitely expect some more changes to the Base Rate System once RBI gets a
feel of the new system. Banks have been smart players and they have been making
good profits notwithstanding the global financial meltdown of 2008 and the wild
movements in interest rates.
It
is expected that banks will be able to protect their margins despite the Base
Rate System, unless more banking licenses are given by RBI/Government. India’s Telecom
Sector has witnessed intense competition in the last two to three years and
this has benefited the customers immensely due to steep reduction in telephone
tariffs. The competition in Telecom Sector has widened the market base and this
has brought higher revenues for the Government in the form of service tax,
corporate tax and income tax.
Can
we expect that the same thing will happen in the banking sector?
It
may not happen in banking sector until more banking licenses have been issued
to both the private sector and public sector players. In this backdrop, it
remains to be seen whether the twin objectives of RBI of bringing in better
transparency and improved monetary policy transmission will be achieved.
Moreover,
it will be interesting to watch the response of the market, banks,
stakeholders, RBI and the Government to this new development.
REPORT OF THE WORKING GROUP
ON
BENCHMARK PRIME LENDING RATE
HEADED BY DEEPAK MOHANTY
The
Working Group had the following terms of reference:
(i) to review the concept of BPLR
and the manner of its computation;
(ii) to examine the extent of
sub-BPLR lending and the reasons thereof;
(iii) to suggest an appropriate loan
pricing system for banks based on
international best practices.
The
Committee’s observations and recommendations:
- The concept of BPLR
is outdated and is out of sync with the present market conditions
- BPLR system is not
very effective in achieving the objectives of RBI in terms of monetary
policy transmission
- BPLR system lacks
transparency
- Due to distortions in
the BPLR, banks were lending at rates much below the BPLR thus defeating
principles of commercial judgment
- A new system called
BASE RATE should be introduced replacing the existing BPLR
- Base Rate would be
based on the following:
i.
The
card interest rate on retail deposits (deposits below Rs 15 lakh) of maturity
of up to one year (adjusted for CASA deposits)
ii.
Loss
incurred by banks for maintenance of CRR and SLR
iii.
Overhead
cost of banks
iv.
Average
return on net worth
- The actual rate
charged to borrowers would be Base Rate increased by operating costs,
credit risk premium, tenor premium and others
- Banks should not lend
at rates below the Base Rate
- However, the
following exceptions may be given to the above rule, meaning, banks can
charge interest rates below the Base Rate for the following types of
loans:
i.
Loans
pertaining to selective credit control
ii.
Credit
card receivables
iii.
Loans
to own employees
iv.
DRI
loans
- Base Rate System
would be applicable for loans with maturity of one year and above
(including working capital loans)
- Banks may give loans
for periods of less than one year at fixed or floating rates without
reference to Base Rate subject to certain conditions. In this regard, the
Committee has recommended certain ceilings for such sub-Base Rate lending.
- Base rate shall be
the basis for floating rate loans also. Banks may use Base Rate or any
external market-based benchmark rates (like, G-Sec, Repo rate, MIBOR, CP,
CD etc).
- At present, the
Government administers loans of up to Rs 2 lakh to small borrowers, under
priority sector and others. This administered regime shall be discontinued
and these loans can be brought under the Base Rate system.
- Interest rate on
rupee export credit should not exceed Base Rate
- Educational loans
should be given a special exemption and they should continue to be
administered. Interest rate on educational loans should not exceed Base
Rate plus 200 basis points.
- Banks should pass on
the information about Base Rates to the public through their websites
Mathematically,
the Base Rate is calculated as follows as per RBI’s illustration:
Base Rate = a + b + c + d
a = cost of
deposits/funds = CoD
b = Negative carry on
CRR and SLR
[ CoD
– (SLR x Tr)]
=
----------------------- x 100 – CoD
[1 – (CRR + SLR)]
Uc
c = Unallocatable
overhead cost = ------ x 100
Dply
NP
NW
d = Average return on
net worth = ------ X ------ x 100
NW Dply
Where,
D
= Total Deposits = Term deposits + Current a/c deposits + Savings deposits
Dply = Deployable deposits
= Total deposits less share of deposits
locked in SLR and CRR
= D x [1 – (CRR + SLR)]
CRR
= Cash Reserve Ratio
SLR
= Statutory Liquidity Ratio
Tr = 364-day Treasury Bill rate
Uc = Unallocatable overhead cost
NP
= Net profit
NW
= Net worth = Capital + free reserves
Negative carry on SLR and CRR: At present, SLR is 25 per cent and CRR is 6 per
cent. CRR balance does not provide any return to banks; while the return on SLR
balance is lower than the cost of deposits. As such, SLR and CRR carry negative
returns for banks.
Unallocatable Overhead Cost: It is fixed overhead cost consisting of Head Office
and Corporate Office costs, which cannot be allocated. Examples of such
overhead costs are: aggregate employee compensation relating to administrative
functions in corporate office, directors’ and auditors’ fees, legal and premises
expenses, depreciation, cost of printing and stationery, expenses incurred on
communication and advertising and IT spending, etc.
Evolution of BPLR in India : A
Snapshot
|
Early 1990s
Till the early 1990s, deposit and lending rates were
mostly administered by RBI. In the early 1990s, RBI started deregulating
deposit rates and lending rates.
|
October 1994
Lending rates for loans with credit limits of over Rs. 2
lakh deregulated. Banks were required to declare their Prime lending rates
(PLRs).
|
February 1997
Banks allowed to prescribe separate PLRs and spreads over
PLRs, both for loan and cash credit components.
|
October 1997
For term loans of 3 years and above, separate Prime Term
Lending Rates (PTLRs) were required to be announced by banks.
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April 1998
PLR converted as a ceiling rate on loans up to Rs.2 lakh.
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April 99
Tenor-linked Prime Lending Rates (TPLRs) introduced.
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October 1999
Banks were given flexibility to charge interest rates
without reference to the PLR in respect of certain categories of
loans/credit.
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April 2000
Banks allowed to charge fixed/floating rate on their
lending for credit limit of over Rs.2 lakh.
|
April 2001
The PLR ceased to be the floor rate for loans above Rs. 2
lakh.
Commercial banks allowed to lend at sub-PLR rate for loans
above Rs.2 lakh.
|
April 2002
A system of collection of additional information from
banks on the (a) maximum and minimum interest rates on advances charged by
the banks; and (b) range of interest rates with large value of business and
disseminating through the Reserve Bank’s website was introduced.
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April 2003
In place of PLR, RBI announced introduction of a new
system called Benchmark Prime Lending Rate (BPLR). The Reserve Bank advised
banks to announce a BPLR with the approval of their boards. The BPLR was seen
as a reference rate and was to be computed taking into consideration (i) cost
of funds; (ii) operational expenses; and (iii) a minimum margin to cover
regulatory requirements of provisioning and capital charge, and profit
margin. The system of tenor-linked PLR discontinued.
|
SOME TERMS
DEFINED:
Floor Rate :
It is the rate below which a bank cannot lend
Reference Rate :
It is the rate which is used by banks as a benchmark for arriving at the lending rate. Usually, lending rates
are linked to the reference rate. LIBOR (London Inter-bank
Offered Rate) is considered a reference rate for a majority of
foreign currency loans available
abroad.
PLR : Prime Lending Rate was
traditionally the lowest rate charged to the prime borrowers with highest credit
rating
BPLR : The
Benchmark Prime Lending Rate was seen as a reference rate and was to be computed taking into
consideration (i) cost of funds; (ii) operational expenses; and (iii) a
minimum margin to cover regulatory requirements of provisioning
and capital charge, and profit margin.
Policy Rates :
Repo & Reverse Repo Rates & Bank Rate are RBI’s policy rates
Reserve Ratios :
SLR and CRR are the reserve ratios of RBI
SOURCES:
RBI website
Deepak Mohanty
Committee’s Report of the Working Group on study of BPLR
Economic Times,
Business Line, Outlook Profit, etc.
DISCLAIMER: The views
are personal. The views need not be construed as those of the organisation
which the author represents. He blogs at:
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THE BEST OF MY STUFF
ON
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TOTAL READS running towards 77,000!
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From A Total of 100
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