Base rate – its different??

By BankBazaar.com | July 7, 2010

Just like how today there is a variation in the BPLR by banks, so also the base rates across banks are likely to vary. That is because, cost of funds for each bank is different and given that costs would be the primary factor determining the base rate, the same will vary. However the variation is unlikely to be huge because the variation in costs for banks is not substantial and no bank, will want to compromise on the profitability objective. Market information suggests that the base rate is likely to hover in the range of 8% – 9%.

July 1st is just past us. Base rate has replaced the currently existent BPLR. Base rate will be the threshold lending rate across products below which banks cannot lend. Hence to arrive at any product cost, banks will add product specific operating costs, credit risk premium and tenor premium to the base rate.

To arrive at the base rate, banks will essentially take into consideration the liquidity conditions and their cost of raising funds. Given the fact that RBI has left it to each bank to decide the methodology for calculation of base rate, permutations and combinations will be required, to ensure that the rate each bank arrives at is not only competitive, but also in line with meeting their profitability goals. Hence RBI is permitting banks to tweak the parameters that will go to determine the base rate up to December 31st after which each bank will have to follow a standard methodology they are comfortable with.

Just like how today there is a variation in the BPLR by banks, so also the base rates across banks are likely to vary. That is because, cost of funds for each bank is different and given that costs would be the primary factor determining the base rate, the same will vary. However the variation is unlikely to be huge because the variation in costs for banks is not substantial and no bank, will want to compromise on the profitability objective. Market information suggests that the base rate is likely to hover in the range of 8% – 9%.

This adoption of the base rate system will bring changes for the banking sector as transparency on product pricing will increase. The impact of this change will be felt across the board- retail, SME, corporate and priority sector. In order to get a sense of what the impact of base rate implementation could be, FICCI conducted a study on the same, the highlights of which are:

  • Bankers expressed the feeling that there is a high probability of a ‘slight’ upward bias as far as lending rates are concerned. However, the degree of impact will differ from borrower to borrower and across sectors.
  • Retail SME and priority sector is likely to benefit with lower rates. Small scale companies with better credit rating will be able to negotiate a good deal for themselves.
  • Corporates will not be able to raise funds at ultra-low rate and hence will move to other source of funds such as Commercial paper
  • CASA heavy banks will have an advantage as they will have greater headroom to offer lower base rates on account of lower cost of deposit which will be the single most important factor determining the base rate.
  • Public sector banks will tend to have a lower base rate in comparison to private sector banks by virtue of having a large deposit base which will give them access to cheaper sources of funds.

Implementation of the base rate system does not necessarily mean low rate of interest to customers because banks can load the costs on the other parameters such as operating costs, risks among other things that will determine the final product cost. Having said that, it is clear that the new system will benefit retail customers and SME’s who were currently cross subsidizing the large corporates. Also better credit rating will empower the customers to bargain, which may translate in lower interest rate. Priority sector lending remains the grey area on which RBI is yet to provide clarity.

All information including news articles and blogs published on this website are strictly for general information purpose only. BankBazaar does not provide any warranty about the authenticity and accuracy of such information. BankBazaar will not be held responsible for any loss and/or damage that arises or is incurred by use of such information. Rates and offers as may be applicable at the time of applying for a product may vary from that mentioned above. Please visit www.bankbazaar.com for the latest rates/offers.

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