SBI, ICICI, HDFC Bank heed Raghuram Rajan's call, cut base rate

Call it competitive pressure or the  logical next step , the country's largest bank, the State Bank of India (SBI), surprised on Tuesday by cutting its base rate by 15 basis points to 9.85 per cent  from 10 per cent.

The new base rate will be effective from  April 10 2015. With SBI taking a lead, many other banks will follow the suit as competitive pressure will build up in the banking  system to reduce the rates.

Meanwhile, two largest private banks - ICICI Bank and HDFC Bank - have also reduced their base rate. ICICI Bank, the largest private sector bank, has  also announced a reduction of 0.25 per cent in its Base Rate with effect from April 10, 2015.

The revised rate will be 9.75 per cent per annum as against 10.00 per cent per annum at present. With effect from July 1, 2010, interest rates on new loans and advances, including consumer loans, are determined with reference to the base rate. HDFC Bank has reduced the base rate by 15 basis points to 9.85 per cent.

The base rate  of a bank is the minimum rate at which it lends to borrowers.

The bank prices its loan linking with  the base rate. Take for example, the SBI car loan is 0.95 per cent above the base rate. So, the car loan rate would be 10.80 per cent per annum.  

The SBI's move is surprising because RBI Governor Raghuram Rajan has decided to keep the repo rate   unchanged at 7.50 per cent citing banks not transmitting the rate cut to end borrowers. The Governor is facing pressure from the industry for lower interest rates, while banks have been quite reluctant in transmitting the  benefit to corporate as well as retail borrowers.

In a media meet in Mumbai on Tuesday, Rajan once again stressed that the marginal cost of funding has fallen for banks.

"There is plenty of liquidity in the market. The credit growth is also tepid," wondered Rajan.

In fact, SBI Chairperson Arundhati Bhattacharya  had recently explained the reasons for not reducing the  interest rates so far despite RBI cutting the repo rate by 50 basis points to 7.50 per cent since January this year.

She had reasoned that there has been a shift of depositors from low cost current and savings account ( called  CASA) to term deposits, which is pushing the cost of funds of the bank. Take for example, the SBI's savings rate is 4 per cent, which is quite low  and the term deposit rate is 7.50 per cent for one year. Sensing lower interest rates, the depositors are making a beeline for term deposits. This could  be a short-term phenomenon, but hurting the  banks cost of funds.

In fact, SBI's CASA is also down, from 43.89 per cent a year ago to 42.58 per cent.  Higher the CASA, higher the ability  and capacity of banks to reduce interest rates.     

In its first bi-monthly monetary policy review, the RBI Governor  has  maintained a status quo saying that they will be watching the monetary transmission.

"The Reserve Bank will await the transmission by banks of its front-loaded rate reductions in January and February into their lending rates," said RBI.

In fact, RBI Governor has other ideas to push monetary transmission in the months to come. The RBI is now working on encouraging  banks to move in a time-bound manner to marginal-cost-of-funds-based determination of their base rate.  

RBI had introduced the Base Rate policy in July 2010 where banks were  allowed to set their actual lending rates on loans and advances with reference to the base rate. Currently, banks calculate their base rate based on the average cost of funds and marginal cost of funds or blended cost of funds (liabilities).