Loans set to pinch more as RBI hikes repo rate

Loans for corporates and individuals are set to be costlier soon while deposits may yield higher returns as the Reserve Bank of India, or RBI, raised interest rates higher than expected to tame inflation. 

For the fifth time this year, the central bank raised the repo rate, the rate at which it lends to banks, by 25 basis points to 6%, and the reverse repo rate, at which it absorbs funds from banks, by 50 basis points to 5%, prompting lenders to review the rates they charge both retail and corporate customers. 

This narrowing of the differential between the two policy rates is now expected to ensure greater stability in the call money market, where banks either borrow or lend overnight. 

“The signal that RBI has given by narrowing the corridor is that banks have to certainly raise deposit rates. Once we do that, it will reflect in the base rate, may be after a quarter or so,” said SA Bhat, CMD of state-run Indian Overseas Bank. 

But what is encouraging, especially for industry, is that the central bank has signalled that it is almost done with interest rate tightening. In typical RBIspeak, it has said the bank believes that the tightening carried out over the last eight months has taken the monetary situation close to normal. The latest move caps a series of rate increases that takes the policy rates back to levels prevailing prior to the global financial crisis of 2008. 

“We are now about 25-50 bps away from the end of the ‘rate hike’ cycle by RBI,” said Mohan Shenoi, group head, treasury, Kotak Mahindra Bank. Most bankers feel that interest rates will rise very gradually and do not expect a sudden spike in rates. 

No bank has immediately responded by hiking its base rate, but most lenders are expected to reset the benchmark upwards when they review it next month. “I don’t expect that benchmark lending rates will go up immediately, but interest rates will inch up over a period,” said Neeraj Swaroop, CEO, Standard Chartered Bank. 

A statement issued by RBI on Thursday said the latest rate action was aimed at controlling inflation without disrupting growth. It said inflation rates have reached a plateau, but are likely to remain at unacceptably high levels for some months. 

Headline inflation is now 8%, and finance ministry officials have been saying they expect inflation to cool to 6% by the end of the year. 

Food inflation is still high, having risen to 15.1% for the week ended September 4 from 11.47% in the previous week. However, Planning Commission deputy chairman Montek Singh Ahluwalia struck a different note. 

“The notion that by raising some 25 basis points (of key rates), you will bring down the inflation... is wrong... If you see the graph of inflation and repo rate, there is no correlation between both. I don’t believe that by doing little more (hiking interest rate)... they (rates) could have much of effect on inflation,” he said in New Delhi.