Private banks raised lending charges in March despite policy rate cut in February

MUMBAI: Private banks counter-intuitively charged more on fresh rupee loans in March-the highest for five months despite a quarter percentage point cut in policy rates three weeks before-as tight liquidity and high funding costs prevented such lenders from lowering the borrowing rate for the average loan customer.

Latest Reserve Bank of India ( RBI) data showed the average lending rate on fresh rupee loans by private banks climbed 12 basis points from February to 10.32% in March.

To be sure, liquidity was tight in March and private banks had replaced their certificates of deposit (CD) and bulk deposits at a higher rate, consequently causing an unexpected and counter-intuitive inflation in borrowing costs. Private banks often rely on CDs and bulk deposits to boost the liability side of their capital structures. The weighted average domestic term deposit rate (WADTDR) for fresh rupee deposits rose to 6.65% in March from 6.49% a month earlier, reflecting continued upward pressure on funding costs.

Sustained liquidity infusion by the RBI helped the banking system turn a cash surplus only in the last few days of March, with a deficit standing in the way of accelerated transmission of the first reduction in policy rates in five years. The daily average for system liquidity in March stood at a deficit of Rs 1.23 lakh crore, RBI data showed.

The response to the first rate cut in nearly five years has been uneven across the banking system. Only foreign banks have significantly passed on the benefit of the policy easing, reducing their average lending rates by 24 basis points to 8.93% in March. Public sector banks, on the other hand, also saw a marginal increase of two basis points, with average lending rates reaching 8.66%.

Foreign banks are less dependent on CDs and deposits. Hence, they are able to pass on the rate cut benefit more quickly to borrowers, experts believe.

Spreads
Overall, the RBI data reflects a notable spread of 166 basis points between the lending rates of private and public sector banks.

Private lenders have been vocal about the pressures they face due to narrowing spreads and pricing mismatches.

"Loan spreads have remained compressed compared to bond spreads. Even when bond spreads move, loan spreads don't adjust accordingly, they're actually coming down," said Srinivasan Vaidyanathan, CFO of HDFC Bank, during a recent post-earnings analyst call. "We are selective in our approach, if a loan meets our quality and pricing benchmarks, we go ahead; otherwise, we're comfortable letting it go. We're not chasing balance sheet growth at the expense of returns."

ICICI Bank also acknowledged intensifying competition.

"There are very large, capable competitors who are also priced meaningfully below us. It does create some challenges in terms of growth, but I guess that's part of life. So, we will have to keep dealing with it as we go along and look at how we can drive other levers to continue to maintain profitable growth," said Anindya Banerjee, Group CFO, ICICI Bank in the recently held post earnings analyst call.

Analysts believe the full transmission of the RBI's February and April rate cuts is yet to be realised due to lingering deposit cost pressures. They expect the impact to become more visible in the June quarter. Additionally, a significant share of loans still being linked to the Marginal Cost of Funds-Based Lending Rate (MCLR) has contributed to the slower transmission, given its longer reset cycles.

"The uneven pace of rate transmission is largely due to the mix of credit portfolios across fixed and floating interest rate structures, and the varied spreads charged by banks," said Aastha Gudwani, India chief economist at Barclays.