Why Interest Rate Reduction Is Harmful For The Economy And Common Men?

I am of the strong opinion that there should be uniform interest rate regime and rate of interest for deposits should be 10 to 12 percent for long term deposits. If rate of interest is uniform , public sector banks will stop sacrificing their profit margin for taking over advances from other sister banks ( other public sector bank which belong to same government, same country and governed by same Central Bank called RBI ) by giving exorbitant concessions in interest rate and other charges.

　

I am of the opinion that any reduction in interest rate may adversely affect the poor and middle class families and retired families whose survival depends on pension and interest income and whose buying capacity is also reduced as interest rate is reduced.

　

Business community will not be affected even if interest rate is increased by one or two percent because contribution of interest cost in total cost of any product is insignificant and negligible in many cases. Moreover business community do not entirely depend on borrowed fund. Even if they borrow the money from bank, it is hardly 50 to 75 % of total money invested in any business venture. Obviously Rise in interest rate by one or two percent even above 10 percent will have negligible impact on their profit margin or on selling price of the product. Further even if bank reduces interest rate by one or two percent , they are not going to decrease selling price of their product .

　

But poor and middle class families will be very much affected adversely if the rate of interest on their deposits is decreased by one or two percent. Many of this segment of society depend on interest income for their livelihood. Lacs of employees who retire ever year and get terminal benefits invest the same in bank deposits to get monthly income for their family expenses. And hence any reduction in interest rate may affect badly their life.

　

Government more often plead that if rate of interest is reduced , number of buyers of home ,and buyers of vehicles will increase and thus help in growth of real estate sector and auto sector. I like to mention here that barring two wheelers and low cost homes say valued less than Rs. ten lac , buyers of four wheelers and high value homes are normally rich enough to afford and bear with rise in interest cost of one or two percent.

　

An individual cannot imagine of buying a car or a home in town and cities until his monthly income is less than five lac per annum . Only bribe earners and black money keepers can imagine of buying a high value loan where he can hide his ill earned money.

　

Moreover home buyers are getting concessions in tax also.. As such any further concession given to them in interest rate is definitely at the cost of benefits ( inform of interest accruals ) of poor and middle class families. Similarly if government promotes sell of for vehicles, it indirectly invite many other grave problems like that of pollution , traffic tam, fuel subsidy burden, road maintenance cost etc.

　

I hope government of India instead of reducing interest rate on deposits will advocate rise in interest rate for the benefit of common men. Further if paying capacity of common men rise , it will give boost to demand of product , businessmen can boost profit by thicker turnover with thinner profit margin.

　

Before the launch of reformation era in 1991 , business men used to do business with comparatively higher interest rate and GDP growth by way of manufacturing used to much better and greater than what it was seen during low interest rate regime.

　

The most painful part of low interest rate regime is that banks diverted their lending to retail sector and reduced their exposure in manufacturing and agriculture sector. . . This resulted in rise and upsurge in apartment construction activities and builders and high net worth corporate houses became main beneficiary of such acts . They became billionaire in a few months and few years .

　

On the contrary , cost of land in all towns and cities went up ten to hundred times. . House which could be purchased in 2 to 3 lac of rupees in during nineties now cost two to three crores. Due to this abnormal rise in land cost and cost of flats, poor and real middle class families cannot afford buying home or flats in apartment. Again this adversely affect the demand and this is why many builders are unable to sell their flats despite many relaxation in interest rate and concessions in taxes given to home buyers.

　

The most painful and bitter truth is that it is real estate sector only which absorb billions of black money generate daily by bad business men and bad service men. Tax evaders treat real estate sector as the most safe investment and most safe heaven to park ill-earned money.

　

I therefore feel that low interest regime have lesser number of benefits and few positive effects than number of losses and negative effects to the economy. Government must ponder over the interest issue , get it debated from all angles of considerations and then only it should advocate low rate of interest . Otherwise building pressure on RBI for reduction in interest rate may benefit a few business men but prove suicidal and prove harmful to the economy in the long run as today economy is suffering due to low interest regime imposed by UPA government since 2001.

　

I do not hesitate in prising RBI governor Mr. Rajan who tried his best to keep interest rate unchanged for almost a year. Though Mr. Suba Rao , former RBI Governor also tried his best in this regard , he failed and ultimately bowed down to some extent under pressure of the then Finance Minister.

　

So far as credit growth in public sector banks is concerned , I would like to say that private banks charge higher rate of interest and higher other charges on loans they sanction to business community than public sector banks. Even though private banks charges are higher their credit portfolio rise at much higher rate than that of PS banks. Credit Growth rate in private banks is at least double than of PSU banks.

　

Obviously it is not only the high interest rat in PS banks which can be blamed for low credit growth . I have no hesitation in saying that credit growth is not taking place due to other reasons as mentioned herein below.

　

Bank officers at branches or in administrative office are not fully trained and skilled in processing of loan proposals. Large scale promotion based on bribery and flattery during last ten years in the name of merit have killed the quality of bank loaning processes and caused much loss to the bank.

Secondly there is fear of loan account going bad and there is fear of failing to recover the money from defaulters. The legal machinery to recover the money from defaulters is totally ineffective and corrupt.

　

Thirdly legal and police system is so much corrupt , inefficient and ineffective that there is no fear of law and punitive action in the minds of defaulters of loan . If government do not make the legal set up effective, the number of defaulters goes on rising and number of write off will as hitherto continue to rise and finally give rise to bribery.

　

Fourth, businessmen are not getting adequate support from various departments of the government timely, without hassle and without payment of huge bribe .It takes months and years in getting statutory clearances . This forces many businessmen to close the business or drop the idea of putting the planned project into action.

　

Lastly local mafias, naxal elements, police officials, agents of various regulating bodies, tax officials tortures businessmen to such a large extent , that they think it better to refrain from doing business.

There is complete lack of administration, response, and good governance at all levels including banks, RBI, Ministry , police and judiciary. This enhances the possibility of happening of all types of crime and ill-motivated activities. This results in reign of injustice which is more conducive for crime than doing business, or practising medical services by even Doctors or CA or Advocates and other social activities and even service in some companies which give higher package is not possible without fear of repercussion and extortion.

Finally there is large scale nexus among business men (loan seekers ), bank managers who are loan sanctioning authorities , valuers, Chartered Accountants, Advocates who promotes bribed based lending , bribe based write off and bribe based delaying tactics in count of law.

The greatest loss is caused to employees of public sector banks by corrupt top bankers and corrupt supporting  other departments. Banks lost money in bad assets, , in write off, in interest concessions given to businessmen and so on. And when profit goes down, it is bank staff who have to suffer in wage hike and they have to work late and on Sundays and holidays to  complete the work. It is to point out here that PS banks have undertaken the task of rapid branch expansion during last few years only to  please ministers but not added sufficient manpower to save expenses.PS banks are now indulged in profit making only by exploitation of staff  as it used to happen before nationalisation of banks in 1969.

I reproduce opinion of a write published in newspaper statesman on 26.01.2015 which substantiate my opinion to a great extent.

The vast multitude of lower middle class and poor Indians are gasping for a decent life. Just consider the plight of millions who bank only on interest on fixed deposits. They are being affected directly with a cut in interest rate. Shouldn’t the ruling government look after their interests after garnering votes? This is a unique phenomenon in India. There has to be a limit beyond which this social injustice must not be allowed to be perpetuated

I wish the RBI Governor had not reduced the interest rate. For 17 months he held his ground resolutely. It is possible that he was tired of hearing sermons and came under pressure. Mr Raghuram Rajan has, otherwise, been performing with remarkable professionalism and independence. He has proved himself to be one of the finest central bankers in the world. Successive Governments have not been at ease with RBI under Mr Rajan’s outstanding stewardship. That is a good sign for our democracy. Institutions like the judiciary, CAG, Election Commission, RBI etc are torch-bearers of our democracy. Any political interference must be repulsed with a heavy hand.

But why reduce the interest rate? Only to appease industry ? Industry in India has been banking only on borrowed funds. A significant slice of these funds are becoming sterile. Its sophisticated name is NPA (Non Performing Asset). NPAs have been bleeding banks. Any cut in the lending rate inevitably adds to this bleeding. Banks are thus forced to reduce interest on deposits to recoup losses. So, an impending reduction of deposit interest rate looms large. Thus, bank depositors are destined, yet again, to take a direct hit.

Policy-makers fail to grasp that the industry does not grow on subsidy alone, just as exports do not grow merely on a depreciating rupee. Sops alone cannot engineer growth. In order to kick-start growth, India’s industry has to be emancipated from a corrupt state machinery. This ought to be the first priority for the new government. Digressing from this basic ailment and finding a scapegoat in RBI’s monetary policy is disingenuous. The present RBI top brass surely know their job.

In any event, the cost of capital has never dampened India’s investment climate to the extent an oppressive state machinery has. Every governmental palm with powers to coerce needs to be greased if you wish to survive as an industrialist. The situation is grim and has reached an axiomatic absurdity. Every businessman will confide privately that the hidden cost to do business far exceeds other legitimate costs. And black money is generated precisely to incur this hidden cost. Let us admit our national failure to arrest corruption and initiate remedial measures on a war footing.

One per cent additional cost of borrowing cannot surely kill or retard our industry, but this fraction makes all the difference to the vast multitude of lower middle class and poor Indians, gasping for a decent life. Just consider the plight of millions who bank only on interest on fixed deposits. They are being hit directly with a cut in interest rate. FICCI, CII or ASSOCHAM never take up their cause with North Block. Shouldn’t the ruling government look after their interests after garnering votes?

A friend was lamenting that he can no longer afford to attend any social function or go on a holiday or even dine in a restaurant, thanks to his dwindling income from bank deposits. In 2004 he retired as a Deputy Manager of a PSU and received Rs 25 lakh in all, plus a monthly annuity of Rs. 5,500. He says that in the last ten years, while prices have shot up, his monthly interest on bank deposits has dwindled from Rs. 24,000 to Rs. 18,000. Any further cut in interest rate would start eroding his capital, and if he survives another decade, he may well have to start skipping one meal. He cannot afford the luxury of investing in the capital market to boost his yield. Investments in gold and real estate are beyond his means. Besides, such investments would exhaust his liquid funds to run the household.

For the vast multitude in India, bank deposits are the safest channels of life’s savings. Out of the total bank deposits of about $ 1.3 trillion, roughly $ 1 trillion would comprise deposits of the low and middle-income groups. Higher income groups and the industry seldom invest in bank deposits since they can opt for greener pastures. They only lobby for bank credit at low costs and play around with bank funds to bolster return. The low-income group thus subsidises our industry. This is a unique phenomenon in India. There has to be a limit beyond which this social injustice must not be allowed to be perpetuated. The government must conceive a scheme to compensate this vast economically vulnerable segment of bank depositors. India’s economy will collapse if bank depositors shift funds to ponzi schemes. The Government must wake up and find an answer to the perpetually threatened bank depositors with decreasing return only to appease NPA wallas.

The surest way forward should be to make bank deposits attractive by hiking the interest rate and making it tax-free. This, in turn, will make banks robust. Capital outside the banking system will flow back into it. Maybe, even the wealthy will then park funds with banks. Banking in India is the largest national instrument for socio-economic development. Banks need funds to bolster growth by targeted lending.

Can the government afford to ignore the raw material of the banking business ~ deposits? To kick-start growth, let us bank mainly on our banks rather than the stock market or foreign investors. The sheer size, reach, volume and diversity of the banking network is unrivalled in India. Only a strong and vibrant banking system will make India a world economic power. Every government has failed to grasp the potential of the banking sector as a vehicle for engineering growth with social justice. I hope this government breaks the hoodoo!
http://www.thestatesman.net/news/102071-hit-the-bank-depositor.html

RBI may ease rates further, says CEA Subramanian-Times of India 27.01.2015

DAVOS: Lauding RBI's role in helping bring down inflation, chief economic advisor Arvind Subramanian said the central bank may further ease the interest rates as improvement on price front has opened the space for monetary easing.

"The way I view is that RBI has a mandate to bring down inflation and keep it low and given the inflation has been coming down, that opened up the space for monetary policy easing and RBI has begun that," said Subramanian, who was here to attend the World Economic Forum Annual Meeting.

"The RBI's own statement says that this is not just a change in rate, but a shift in its monetary policy stance provided inflation remains low and there could be more easing," Subramanian said.

A number of business leaders and bankers, including ICICI Bank's Chanda Kochhar and Kotak Group's Uday Kotak, also said at the WEF that RBI may look at further easing of rates as inflation appears to be under control. Subramanian also said the government is committed to making sure that the taxation is not an extra burden for foreign investments of all kinds. On ease of doing business, he said, "There are also issues like land laws, labour laws and reforms have been happening on those fronts. We will have to wait for the World Bank to measure how these efforts have helped in terms of ranking. Besides, the real measure will be seen in terms of actual investments that would flow in."

On January 15, RBI had cut the policy rate by 25bps a few weeks ahead of its regular monetary policy meeting, which is scheduled to be held on February 3.

RBI governor Raghuram Rajan lowered the benchmark repurchase rate to 7.75 per cent from 8 per cent, the first reduction since May 2013. The RBI rate cut follows decline in inflation as well as the commitment of the government to stick to the fiscal deficit target of 4.1% of GDP in the current financial year.

Interest rates could rise sooner than thought, says Bank of England rate-setter

MPC member Kristin Forbes outlines scenario pushing inflation above 2.0% in 2016 which would force bank to raise interest rates

 

RBI norms to affect bank's pricing power: Moody's-Business Standard 27.01.15

 

Indian banks are required to set a base lending rate that is a function of the bank's cost of funding, operating costs and cost of capital

 

The Reserve Bank of India's (RBI) norms requiring banks to outline the framework they use to determine the loan spread about their benchmark lending rates will reduce pricing power of the latter, global rating agency Moody's Investor Services said Monday.

 

An article in Moody's Credit Outlook Jan 26 said: "The new requirements are credit negative because they will reduce banks' discretion to price loans at higher spreads to correspond to market conditions and each borrower's credit worthiness." (My Comment: Discretion given to banks proved disastrous)

 

The norms are likely to most affect consumer loan pricing given that retail borrowers tend to have less pricing power than large industrial borrowers and banks have been most able to take advantage of market inefficiencies in the retail loan segment, Moody's said.(My Comment:  Bank's focus on only retail lending has adversely affected agriculture and manufacturing sector)

According to the report, within the retail segment, pricing in the mortgage segment is likely to be the most affected as it is in this segment that banks have resorted to differential pricing the most.
Indian banks are required to set a base lending rate that is a function of the bank's cost of funding, operating costs and cost of capital.

"Although banks are not allowed to lend at rates below their base rate, they have latitude in how they charge a premium or spread on individual loans, depending on market conditions and the credit quality of the specific borrower," the report stated.( My Comment: Bankers do not decide interest rate on market condition but based on their relation with business houses and their self interest )

According to Moody's, RBI's concern about the transparency and fairness of how banks determine loan spreads mainly relate to the downward stickiness of lending rates (i.e., lending rates not declining commensurately with other interest rates), discriminatory treatment of old borrowers versus new borrowers and arbitrary changes in spreads.

Bank spreads are a function of product-specific operating costs, credit risk premium, the loan tenor and qualitative factors such as competitive intensity and pricing power.

"The regulator has been concerned that arbitrary inclusion of these qualitative factors into product pricing can lead to spread disparities among customers. The new norms address this by requiring banks to have a board-approved policy delineating the spread components," the report noted.
"We expect this to reduce the arbitrariness in determining spreads for specific customers," Moody's said.

According to the rating agency, the spread charged to an existing borrower may not be increased except on account of deterioration in the borrower's risk profile or when market interest rates for that particular loan tenor have increased.
If a bank decides to change its spreads because of a change in market interest rates for a particular loan tenor, the change will also be applied to all the bank's borrowers at that particular tenor, Moody's said.

Mr Subramanian, nothing will change for common man with RBI rate cuts now-First Post- By Dinesh Unnikrishnan-27.01.2015
Hopes of further rate cuts from the Reserve Bank of India (RBI) are sky high after indication from its Governor Raghuram Rajan early this month that the Indian central bank has turned the corner to the path of a lower interest rate regime in Asia’s third largest economy.

The rate cut-associated euphoria escalated further when Arvind Subramanian, noted economist and the government’s chief economic advisor, said in Davos the RBI indeed may go for further rate cuts, corroborating Rajan’s statement.

Theoretically, rate cut is good news for everyone in the economy. The very mention of it cools down the yields in bond markets, livens up industry spirits and takes some burden off the shoulders of the common man when banks subsequently go for reduction in their loan rates.

Now, let’s take a look at the present scenario.

Even before the RBI cut its repo rate — the rate at which it lends short-term funds to banks — to 7.75 percent, bond yields had come off their earlier highs. The rate cut made both the government and industry happy, as they hoped for a sustained lower interest rate regime. Thus the RBI's move is significant to that effect.

But when it comes to the common man, the quarter percentage point cut that has been affected and a likely further cut by similar quantum, don’t appear to make much difference as these are his interest cost burden in the form of lower home and auto loan EMIs (equated monthly installments) is unlikely to see a fall.

There are two major reasons for this:

For one, so far, monetary transmission in the banking system has been abysmal. That is due to the reluctance of banks to cut their actual lending rates to the end borrower. Though a host of banks have been reducing their deposit rates in the recent months, very few of them have cut their lending rates.

Post the monetary policy, only two state-run banks — United Bank of India and Union Bank of India — lowered their base rates, or minimum lending rates, by a quarter percentage point to 10 percent. But that is the base rate of most of the large banks, including state bank of India, even at this stage. In that sense, both lenders have simply aligned their base rate with market, rather than reciprocating it to the rate signal from the central bank.

Secondly, even if banks cut base rate by some margin, it wouldn’t help retail borrowers much, since banks typically play with the model they choose to compute the base rate and the premium charged above the base rate to certain category of customers to control their final lending rate, regardless of what their base rate is.

Remember, the base rate system was introduced in 2010 replacing the benchmark prime lending rate (BPLR) system to bring in transparency in the lending process. Until then, banks used to offer sub-PLR rates to attract their favorite corporate clients, some times as low as 6 percent to 7 percent, while they used to charge small companies and individuals much higher than PLR.

This disparity has been tackled with base rate coming in since banks cannot lend below the base rate to any customer, except the economically weaker sections, who are a minority for banks.

But banks still found a way to play with the spread over the base rate to offer competitive (lower) rates to their premium corporate customers, by adjusting the premium over the base rate. This way, it is up to the bank to decide whether the final rate should be charged 300 basis points (bps) plus the base rate or 50 bps. One bps is one hundredth of a percentage point.

So, in short, banks are free to manoeuvre the spread over the base rate to charge the retail borrower a higher rate.
In fact, the RBI is trying to tackle this. The recent clarifications on base rate, which said banks need to have a board approved policy to decide the premium and the loan rates should be displayed on the website etc, are aimed at bringing about a much-needed transparency in loan pricing.

But still banks continue to enjoy the flexibility to decide how to calculate their base rate. One of the main components of the base rate is the deposit rates the bank chooses to link the base rate to. Banks can do this either linking the base rate to one particular maturity deposit, say the shorter or longer end of the liabilities, or the average cost of deposits.
At present, there is no uniform system among banks on this mechanism. Different banks use different methodologies to arrive at the most ‘appropriate’ base rate.

Also, some banks have indicated that the fresh clarification from the RBI on the tenor premium (that banks need to apply the same tenor premium for all category of borrowers) might, in fact, result in an increase in the loan rate. Hence, no major changes are likely in the current base rate levels even with the modified guidelines.

In effect, the base rate system hasn’t helped much to bring in transparency or effective monetary transmission as far as the common man is concerned, even though, it has indeed killed the practice of sup-PLR loans. Whether the RBI cut rate or not, banks have been highly rigid to take cues from the central bank and pass it on to the retail customer.

Thirdly, for the corporate customer too, except the top rated companies, getting loans with lower rates will be a bit difficult at least in the immediate future, since banks are in no mood to increase their exposure to weak companies given the substantial amount of stressed assets on their balance sheets — a result of the reckless lending they resorted to in order to garner more business and the ill-effects of economic slowdown. Hence, any major reduction in corporate loan rates too looks difficult.

To be sure, the RBI has indeed tried to prod banks to ensure better monetary transmission and transparency by reemphasising that banks need to review their base rates quarterly and have more consistency in deciding the premium charged to multiple categories of borrowers.

If the RBI continues with its rate easing plan and cut repo rate by a much larger quantum, say 50-75 bps more, banks might consider lowering their base rates to some extent. But, that may come after further rounds of reduction in deposit rates. In a scenario, where falling inflation has net returns on bank deposits positive for savers, banks do not fear generation of funds.

But an identical cut in lending rates compared to the reduction in deposit rates appears unlikely.

In short, it is debatable at this point that how much say RBI rate actions can claim on influencing the actual interest burden of the common man. The base rate system, for sure, hasn’t changed things for the better for the retail customers compared with the BPLR regime.

Until the time banks choose to cut their lending rates in a meaningful manner for the retail customer, the RBI rate cut doesn’t have much sense for the common man who is worried about his monthly interest outgo. There, the RBI has very little control as it appears now.
    http://www.firstpost.com/business/mr-subramanian-nothing-will-change-for-common-man-with-rbi-rate-cuts-now-2065941.html