The Reserve Bank of India (RBI) has given out some crucial feedback on its website. The internal RBI study group which was examining this case, issued a proposal that banks must consider the certificate of deposit (CD) rate, treasury bill rate and the policy repo rate of the RBI which is effective from the 1st of April, 2018. Several banks have already expressed the opinion that this linking is never feasible, particularly when the deposit rates of the bank are not connected to the prevailing market rate. The study group has also expressed the opinion that the banking system in the country currently has some asymmetrical aspects. This is because depositors are still unprepared when it comes to investing in floating rate based deposits.
The Indian Banks’ Association (IBA) and most banks have stated that the MCLR system is already functioning suitably and should be allowed to continue at present. All the banks in India do not accept the three benchmarks that have been recommended by the RBI internal study group. Most banks in the country have reasoned that loans are majorly funded by the retail deposits. Banks have to ensure proper management of interest rate related risks suitably since they cannot lend at interest rates connected to any external benchmark which are subject to change each day in situations where sticky rates are seen on deposits.
With there not being an effective IRS (interest rate swaps) market, most banks do not have hedging against these risks. Profitability will be impacted and the spreads will be more than considered necessary. This will help in compensating for any risks related to interest rates. Banks have also stated that when there is no reliability in the money market, any benchmark will lead to banks having full discretion when it comes to pricing of the term premiums. The banks have also proposed that an ideal benchmark could be built on the basis of deposit rates in the banking system. Banks have stated that the reset tenor for working out the MCLR could not always be set on a quarterly basis.
Banks have also argued that customers would not appreciate such frequent revisions of obligations related to interest payments. The spread cannot remain fixed forever when it comes to several kinds of loans. The spread decision may be even tougher by shifting to any external benchmark due to uncertainties linked to the management of risks linked to interest rates. This may also affect spreads partly. Banks are thus better inclined towards continuing with the present MCLR regime and thereby asking for more time with regard to ensuring a better performance assessment. Banks have instead asked for a voluntary date for switching base rate customers to the MCLR regime.