Why loans are not less expensive in spite of repo rate cuts by the RBI

The repo rate was slashed five consecutive times in recent memory in an effort to boost liquidity as the GDP growth declines. A repo rate is basically the rate at which commercial banks can borrow money from the Reserve Bank of India. The decision to raise or lower the repo rate is made by the RBI. When the Reserve Bank cuts the repo rate, banks are expected to pass on the benefit to the consumers by way of lower interest rates and lower EMIs. However,car loan are just as expensive as before the repo rate cuts. For instance, the rate was 8% in 2014, and has since decreased to 5.15%. Despite the 2.85% reduction in the repo rate, consumers have not reaped the benefits.  

car loan

While interest rates have been lowered by some of the lenders, not all banks have done the same. For instance, the State Bank of India, lowered its 3-year MCLR from 8.25% to 8.2%. The banks 1-year MCLR also reduced from 8.05% to 8%. Even HDFC Bank, the largest private sector bank in the country, lowered its 6-month, 1-year and 2-year tenors by 5 basis points each in November 2019.  

Why does the RBI not urge banks to do something?  

The Reserve Bank of India and the government have both consistently asked banks to lower their rates and pass the benefits on to the customers. The Reserve Bank also made it compulsory for banks to ensure that their new retail or personal loans (with floating rates) are linked to key lending rates or external benchmarks as they are also called. The deadline was set for October 1, 2019 so that consumers immediately reap the benefits of the repo rate cuts.  

However, the margin was increased by banks and the end consumer did not get the full benefit of the rate cuts by the central bank. For instance, the margin of State Bank of India was increased from 2.25% to 2.65%.  

Could things change in the future?  

Things are expected to change soon as banks are expected to be forced to ensure that rate cuts are passed on to customers if the borrowers have availed loans with floating rates under external benchmark system. But, interest rates are reset to reflect changes in the external benchmark once a quarter. Considering the fact that rates were fixed by banks in October 2019, the new changes will be reflected in January 2020.

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