What the RBI rate hike means to you
RBI governor Raghuram Rajan raised the repo rate and slashed the MSF rate. What does this mean to consumers? We tell you what’s likely to happen to loans, deposits and bonds.
The Reserve Bank of India (RBI) hiked the repo rate by 25 basis points (bps; 100 basis points equal 1%) to 7.75% in its second quarter review of the monetary policy. The hike in the repo rate was not unexpected, as the new RBI governor Raghuram Rajan has been open about his commitment to fighting inflation. In a statement, the RBI said, ‘It is important to break the spiral of rising price pressures in order to curb the erosion of financial saving and strengthen the foundations of growth. It is in this context that the repo rate has been increased by 25 bps.’ However, the central bank also increased liquidity for banks, slashing the Marginal Standing Facility (MSF) rate by 25 bps to 8.75% and raising the 7- and 14-day term repo windows to 0.5% of total deposits from 0.25%.
What does it mean?
As a consumer, you’re probably wondering how any of this affects you. Here’s what we’re talking about:
Repo rate: The repo rate is the rate at which commercial banks borrow from the RBI overnight. When the RBI intends to control inflation, it raises the repo rate to reduce the supply of money in the system.
Marginal Standing Facility: Banks borrow funds from the RBI while maintaining a certain percentage of government bonds as collateral. When they fall short of the collateral, they can borrow at the MSF rate, which is always more expensive than repo rate.
Term repo window: The amount a bank can withdraw for 7 and 14 days, respectively, at the repo rate was increased to 0.5% of its total deposits from 0.25%, thereby injecting around Rs40,000 crore worth of liquidity in the system.
What the changes mean to you
As battling inflation is the primary goal, the RBI’s moves will, if anything, have a positive impact if you’re looking to save and a negative impact on those looking to borrow.
Loans: For now, banks are expected to keep things as they are. So if you have a home loan, the good news is that your interest rates are unlikely to go up regardless of the rate hike. Sanjay Matai, CEO, The Wealth Architects, says, ‘This policy review will not have any big impact on banks. Of course, they could raise their lending rates marginally, but consumers shouldn’t worry about this now.’ Many PSBs are, however, currently lending at their base rate.
Deposits: If banks don’t raise lending rates, they most certainly won’t pay more on deposits. On the plus side, though, banks will now be able to pay out interest on fixed deposits every 15 or 30 days, rather than just quarterly. So if you or your parents are dependent on regular income from FDs, this would be of help. A few banks have, however, said that they won’t be paying out interest in such short terms any time soon, though, citing higher costs.
Short-term funds: The reduction in the MSF rate (there was one in the previous policy review, too) will produce an upswing in short-term funds and liquid funds. This is because the lower MSF rate will reduce short-term yields. Pankaj Mathpal, CEO, Optima Money, however, says, ‘Had there been only a cut in MSF rate, we could have expected things to improve for short-term funds, but since the repo rate hike has been announced simultaneously, no such improvement can be predicted. Once sentiment adjusts, we can expect things to normalise.’
Tax-free bonds: Investor appetite for tax-free bonds may have waned, with offers from PFC and NHPC severely undersubscribed, receiving just 40% of the total issue. But other public sector companies, including a big one from NHAI, are expected to come out with their issues. While low interest in recent issues has prompted expectation of higher rates from newer issues, Mr Mathpal does not believe this will happen. He says, ‘Rates have already been high. We must remember that these are long-term bonds, so the companies will have to sustain these high interest rates for 10 to 20 years. So I don’t believe rates will be any higher.’