Policy rate cut transmission uneven despite covid-19 stimulus
The central bank chopped off 115 basis points (bps) from its repo rate in 2020 and a larger 155 bps from its reverse repo rate
Transmission of policy rate changes has been troublesome in India for quite some time now. Not all sectors of the economy get the full benefit of interest rate cuts made by the Reserve Bank of India (RBI). In the wake of the pandemic, transmission has improved but it still is uneven within the economy.
The central bank chopped off 115 basis points (bps) from its repo rate in 2020 and a larger 155 bps from its reverse repo rate.
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One basis point is one-hundredth of a percentage point. With the liquidity surplus reaching gargantuan levels, the reverse repo rate has become the operative rate for the markets. But the transmission of these policy rate cuts has not been even across the economy.
Data from the RBI shows that weighted average lending rate dropped the most for non-bank financial companies (NBFCs) followed by those involved in trade.
The lending rate fell by 141 bps for NBFCs and 107 bps for those in trade. Agriculture was the least benefited with the weighted average lending rate falling just by 49 bps.
To be sure, the sector has weathered the pandemic and has been one of the silver linings in an otherwise gloomy growth outlook.
As such, farm loans are considered riskier by banks and the cost of borrowing of the agriculture sector has remained largely unchanged in the past five years. What is interesting is that transmission to lending rates for retail, the most sought-after segment, has not been satisfactory beyond housing loans. The weighted average lending rate dropped by 110 bps in 2020 for home loans.
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On an aggregate basis, though, the lending rate for retail loans fell only by 83 bps.
In fact, those on unsecured loans have actually gone up. It is clear that banks have priced in the extent of risk that each of these segments pose for their balance sheet.
While the pandemic has led to lending rate cuts, it has also impacted incomes of companies and individuals. This has meant that their risk of defaults has increased.
Short-term moratorium and other forbearance may have ensured some more relief to borrowers but a big comfort on cost of borrowing has not reached everyone. Given that deposit rates may have bottomed out and sovereign yields have risen off late, a further fall in lending rates may be unlikely.
The government has kept small savings rate unchanged at elevated levels, which is another impediment for transmission. After all, for lending rates to fall, deposit rates need to come down too.
RBI may have unleashed a large stimulus through various forbearance and policy rate cuts to ward off the worst effects of the pandemic.
The forbearance has helped borrowers tide over the shock from the pandemic. But the average borrower’s cost is yet to find a meaningful decline.
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