Reduction IN REPO Rate Vis-a-Vis Ultimate Benefit To Borrowers

The Reserve Bank of India (RBI) did another rate in repo rate by 40 basis point to 4%. Which ideally should be transmitted in the form of lower cost of finance (ROI) to borrowers. However the same is far from reality.

The Reserve Bank of India introduced the MCLR methodology for fixing interest rate from 1^st April 2016. It replaced the base rate structure, which had been in place since 2010.

Marginal cost of funds based lending rate is closely linked with the repo rate. Thus, there is better transmission of Reserve Bank of India’s rate cut to the borrower.

The marginal cost of fund-based lending rate (MCLR) is the minimum interest rate that a bank can lend at. The MCLR is a tenor-linked internal benchmark, which means the rate is determined internally by bank depending upon the period left for repayment of a loan.

MCLR is closely linked to the actual deposit rates and is calculated based on four components

(1) The marginal cost of funds

(2) Cost of maintaining CRR

(3) Operating cost

(4) Tenor premium

Under the MCLR regime, banks are free to offer all categories of loans on fixed or floating interest rates. The actual lending rates for loans of different categories and tenors are determined by adding the components of spread to MCLR. Therefore, the bank cannot lend at a rate lower than MCLR of a particular maturity, for all loans linked to that benchmark.

Even after introduction of Marginal cost of fund – based lending rate (MCLR) by RBI, still there is no “Cost benefit” pass- on to the Borrowers.

Many Lenders have MCLR in the range of 8% to 9% PA but they add Spread (risk premium) and charge the final ROI at the weighted average rate of approx. 13% to 15% PA. Excess recovery of 5% to 6% in the form of Spread which is more than 60% of MCLR. It is a very big financial burden on the borrowers. Which results in increased cost of debt servicing, hitting bottom line of P&L and resulting in lessor/ no profitability. With a cascading effect of SMA/NPA of accounts or lower Credit rating of Borrower.

Many Lenders to maintain the same ROI for Loan, increase the spread if the RBI reduces the REPO Rate and in turn reduced MCLR.

One of the big lenders known to me renewed the TL ROI as follows: Previous year ROI was 13.60% PA (8.7 MCLR +4.9 spread) and this year they renewed it as again at 13.60% PA (8.35 MCLR +5.25 spread). Means they just increased the spread without giving any benefit to borrowers on account of reduction in Repo Rate or MCLR.

Many Lenders (REC/PFC/Public Sector Banks, Private Sector Banks and other Financing Agencies) are charging very hefty spread on their cost of Finance and putting excessive burden on liquidity/ financials of borrowers.

Many Private Sector Companies having very good Credit Rating ( Investment grade like- AAA,AA,A,BBB) get tie-up  for various form of finance like non-convertible debentures/ Corporate Bonds/ Commercial papers/ Corporate Fixed Deposits/ Investment from Private Equity firms as well external commercial borrowings at cheaper rate of finance in the range of 6% to 8%. The objective may be to refinance the existing costly loans/ working capital requirements etc. But the same is not available to other companies due cascading effect of High finance cost – Low profitability- Default in debt servicing – Poor Credit Rating – High ROI along with penal charges by Lenders.

Attention of PMO/FM/RBI is required to look into it and come up with a plan to get into it and come out with specific solution to effectively transmit the benefit of rate reduction in REPO rate by RBI to ease out Liquidity Problem of Borrowers to boost economy.

Accordingly, following measures are suggested:

1) Fixing the spread in the form of some % on MCLR but having cap of maximum 1%/2%/3%.

2) Immediate (time bound manner) transmission of benefits after reduction in REPO Rate and MCLR

3) Extension of Cost Audit in Financing Companies as well Certification of MCLR by members Institute of Cost Accountants of India. Cost Calculations should be done as per Cost Audit Standard/RBI guidelines to exclude unwanted loaded cost in “operating cost”

4) Spread finalised in JLF should be binding on all the Consortium members.

5) Above compliance should part of monthly return filing to RBI by respective lenders