Many banks have come up with repo linked home loan. It will help borrowers to benefit by the RBI rate cut. Read on to know how repo linked products work.
The central bank cut the interest rate. And banks pass the cut to their savings account, fixed deposits and all the other areas that we don’t want them to cut. Well, that has been the grudge for many individuals. Not anymore. This is going to change and we have already started to see the wind of changes.
Few banks have introduced repo linked products which means that the interest rate will be in lines with the repo rate. So a cut in the repo rate will mean a cut in the interest of loans as well. So it is good news for loan takers, or bad. Let’s find out.
If you are not aware of repo rate, then read our primer here.
Reserve bank of India (RBI) sets the repo rate. Think of the repo rate as an anchor. Typically, the interest rates of everything else should move in tandem with the repo rate. The interest rate includes the interest on the fixed deposit or home loans and everything else.
The RBI cuts or raises the repo rate to achieve certain objectives. It can be to stimulate growth or keep a leash on inflation. While RBI had done what it feels is right for the economy, banks haven’t been very proactive in cutting the interest rates especially when it comes to cutting the interest on loan products.
Let us take the example of two of the largest banks in the country, SBI and ICICI Bank. SBI’s one-year MCLR rates in October 2018 and August 2019 were 8.5% and 8.25%, respectively. ICICI Bank’s one-year MCLR was unchanged at 8.65% during the same tenure. At the same time, the repo rate was cut by nearly 1% from 6.5% to 5.4%.
Before the introduction of the repo-linked products, banks based their loan interest on Marginal Cost of Funds based Lending Rate. It is the minimum rate below which banks are not allowed to lend.
But banks hardly source their funds from RBI’s repo window. A major part of their deposits come from public deposits. Hence, they were not able to cut their lending rates without reducing the deposit rate.
As a result, RBI’s objective to stimulate growth by cutting the interest rate has not been able to fully materialise.
RBI in the December 2018 monetary policy meet asked banks to link all floating rate retail loans to external benchmarks from April 2019. Linking the savings account rate to the repo rate addressed this problem. A fall in the savings rate means that the cut in the interest rate of loans is inevitable.
On July, SBI was the first to introduce a repo-linked home loan where the interest rate was linked to the interest rate. Currently, it is 225 bps over the repo rate. The change in the rate becomes effective from the 1st day of the next month. Hence, as RBI cut the repo rate by 35 bps earlier this month, the interest rate will be revised on 1st September.
To take the SBI repo rate linked home scheme, the borrower should have a minimum annual income of Rs.6 lakh. The tenure of the loan cannot exceed 35 years.
Another PSU bank Allahabad Bank has also linked their home loans with the repo rate. This makes borrowing money becomes cheaper. The banks have benchmarked their loans up to Rs.75 lakh with the repo rate.
Punjab National Bank (PNB) has launched PNB Advantage. With the help of this retail lending scheme linked with the repo, existing customers can switch over to the new system with minimal charges.
More banks are likely to follow and introduce repo rate related products. This will make it cheaper for customers to borrow loans when the repo rate goes down.repo linked products
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