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The process of reform in India is just that: it's a process; it
doesn't happen overnight. There is a great culture of giveand-
take in political debate.
— Stephen S. Roach, Chairman,
Morgan Stanley Asia, and noted economist
In a major reform, a new regime of Base Rate for lending has set in
banks in India from July 1, replacing the Benchmark Prime Lending
Rate system. The BPLR had effectively meant upper limit of
interest rates for corporate borrowers as banks lent more at sub-
BPLR; and given asymmetric stickiness, BPLR had lost its usefulness
as a reference rate. The new Base Rate marks a switch to the
other end of the spectrum, namely the lowest interest rate a bank
can charge the borrower.
State Bank of India and ICICI Bank, the largest PSU and private sector
banks respectively, have fixed Base Rate at 7.5 per cent, which
has ranged between 8.75 per cent for Karnataka Bank and 7 per cent
for Yes Bank. The rates are significantly lower than 11-17 per cent in
BPLR. In fact, the base rate of 7 per cent of Yes Bank is less than a
half of its earlier PLR. By the way, average yield on advances had
ranged between 9.40-10.5 and cost of deposits 5.47-5.93 per cent
during 2008-09 between different categories of banks.
The Base Rate factors a bank's cost of funds, profit margin and
administrative cost. Whereas, RBI has given a model formula for calculation
of the rate, banks are free to use any other methodology provided
it is consistent. In terms of RBI guidelines, all new loans including
renewals would henceforth be priced only with reference to the
Base Rate, barring some categories like DRI advances, loans to
banks' own employees, and loans to banks' depositors against their
own deposits. The Base Rate should also serve as the reference
benchmark rate for floating rate loan products. Existing borrowers
tied to BPLR system are given an option to switch to the new system,
on agreed terms.
Banks are required to review the Base Rate at least once in a quarter
with the approval of the Board or the Asset Liability Management
Committees as per the bank's practice. Further, banks have to exhibit
Base Rate information at all branches and also on their websites.
Changes in the Base Rate should also be conveyed to the general
public through appropriate channels. Banks are also required to provide
information on the actual minimum and maximum lending rates
to the Reserve Bank on a quarterly basis, as hitherto.
According to current assessment, corporates which have multiple
competitive sources of finance are not likely to face any hike in financing
cost. As banks have the flexibility to price loans factoring risk perceptions,
tenure and loan product-specific costs, their margins would
be safeguarded. However, the new regime is likely to see increased
activity in the short-term money markets where banks could be competitively
bidding for commercial papers and corporate debt securities.
The system is also expected to enable better assessment of
transmission of monetary policy changes. On the flip side, the Base
Rate largely reflecting cost of deposits, minimum acceptable profit
margin and administration costs could reflect the efficiency of individual
banks. On the whole, we welcome the Base Rate regime in the
interest of transparency of loan pricing and transmission of changes
in policy rates.
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