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Home, auto loans to become costlier; FDs to give better returns

Press Trust of India / Mumbai September 30, 2010, 21:37 IST

In a mixed bag of offerings this festive season, banks today decided to push up
interest rates on home and auto loans but also announced that they would provide
higher returns on fixed deposits.
Six banks including Punjab National Bank (PNB), IDBI Bank and Allahabad Bank
said they will hike their base rates -- below which they can't lend -- by up to 50 basis
points from tomorrow that would make home, auto and corporate loans costlier.
On the other hand, three banks -- State Bank of India (SBI), PNB and IDBI Bank --
raised their fixed deposit rates, by up to 75 basis points (0.75 per cent).
The country's largest lender SBI, however, retained its base rate at 7.5 per cent,
despite the Reserve Bank of India (RBI) increasing short-term policy rates at its
review meeting earlier this month.
Domestic private sector lenders Axis Bank and Kotak Mahindra Bank, and foreign
lender Standard Chartered Bank, raised base rate by 25 basis points.
As per the RBI guideline, banks are supposed to review their base rate every quarter.
This is the first review of the rate since it was introduced in July this year to replace
benchmark prime lending rate (BPLR) system to improve transparency
Meanwhile, SBI increased its deposit rates, as also PNB and IDBI Bank, up to 75
basis points to attract depositors to their fold, who have been getting negative returns
when adjusted for inflation.
Taking note of the negative real rates to the savers, in view of high inflation, PNB
raised interest rate on fixed deposit by 25-50 basis points across various maturities,
while IDBI Bank hiked its rates by 15-50 basis points on various slabs effective
Banks' decision to increase deposit rates, which would be followed by other lenders,
follow the RBI's concerns that lenders are not attracting enough depositors.
SBI, the country's largest bank, has decided to raise deposit rates from 25-75 basis
points (0.25-0.75 per cent) across various maturities
For 91-180 days term deposits, SBI will pay 5.5 per cent interest, up 75 basis points
from the existing rate.
Fixed deposits with maturity period between 1 year and 554 days has been raised by
25 basis points to 7 per cent, while deposits for 555 days would attract 7.5 per cent.
The interest rate on term deposits of between 556 days and 1,000 days, under different
slabs, has been increased by 50 basis points, going up to 7.75, SBI said in a statement.

All this is credited to the RBI increasing the CRR on 27th July. It was almost certain
that rates will go up.

which was declared on 27th July. However. The rumors in the market is that it is the time for rising interest rates. the Education Loan Interest rate is hiked. You may see that ou take a home loan at 8. Think twice before going for a long term committment like a home loan spanning over many long years. 3)What is the reason for this increase in loan intrest rates? The reason is said to be the CRR hike by Reserve Bank of India (RBI).75 from 5. no bank promptly reduces the EMI. So it is the customer who get stuck. 2)There comes the big news which everyone was afraid of . but that's something varies from bank to bank. It is also learnt that both the existing and the new loan borrowers will get affected because of this loan rate increase. Recnetly the Reserve Bank of India raised the reverse repurchase rate to 4. The cash . then may rise even further. Expectations are that there might be another rate hike by RBI anytime. TheBank Rate has been retained at 6%.5% from 4% and the repurchase rate to 5. even the education loan is not spared.they are very quick to pass on the increased rates to the loan borrowers. as the inflation is still not under control. The rates are rising.The largest players in the home loan and car loan markets have gone for a Home Loan Rate Hike and Car Loan Rate Hike. We all know how well the banks do when the rates increase .5% today. Some banks may offer teaser rates fixed for some initial period of time.5%.Is it the right time to buy a house on home loan? I dont think so. when the rates decrease. There is another monetary review expected on September 16th. Even that might be increased if the interest rates increase. and after 3 months the rate increases to 9% increasing your EMI.

50% with immediate effect • Cash Reserve Ratio (CRR) of scheduled banks has been retained at 6.5% In essence the RBI announced no hike in CRR and a 25 bps (bps) increase in Repo rate but a 50 bps hike in Reverse Repo rate was not expected by many. Banks are always happy to lend money to the RBI since their money is in safe hands with a good interest. incresing the amount of cash entering the economy. Highlights of RBI Monetary Policy Review for first quarter of the financial year FY2010- 11 • The Bank Rate has been retained at 6." Subbarao said. The repo rate in India is similar to the discount rate in the US. thereby controlling inflation. It is also a tool which can be used by the RBI to drain excess money out of the banking system Cash reserve Ratio (CRR) is the amount of funds that the banks have to keep with the RBI Cash reserve Ratio (CRR) is the amount of funds that the banks have to keep with the RBI. RBI governor Subbarao was quoted as saying.reserve ratio (CRR) of scheduled banks has been retained at 6% of their net demand and time liabilities (NDTL).5% from 4% An increase in reverse repo rate can prompt banks to park more funds with the RBI to earn higher returns on idle cash. If the central bank decides to increase the CRR.75% with immediate effect • Reverse repo rate increased by 50 bps from 4. The Reserve Bank of India is responsible for formulating and implementing Monetary Policy. It deals with both the lending and borrowing rates of interest for commercial banks. If the RBI decides that the economy is slowing down -that demand is slowing down-then it can reduceinterest rates.5% to 5. It is an instrument of monetary policy.0% of their net demand and time liabilities (NDTL) • The projection for WPI inflation for March 2011 has been raised to 6.0% from 5. full employment and economic growth.The RBI raised the reverse repurchase rate to 4.0% • Repo rate increased by 25 bps from 5. "It is imperative that we continue in the direction of normalizing our policy instruments to a level consistent with the evolving growth and inflation scenarios. It regulates the supply of money and the cost and availability of credit in the economy. The RBI raised the repurchase rate to 5. carry out open market operations control credit and vary the reserve requirements.Thus consumers spend less.5% • Baseline projection of real GDP growth for FY2010-11 is revised to 8. Repo (Repurchase) Rate: The rate at which the RBI lends money to commercial banks is called repo rate. Reverse Repo rate: Reverse Repo rate is the rate at which the RBI borrows money from commercial banks. Whenever banks have any shortage of funds they can borrow from the RBI. the demand slows down.5%. It can increase or decrease the supply of currency as well as interest rate. The RBI uses the CRR to drain out excessive money from the system Inflation: An issue which has been causing grave concern to monetary authorities both in developed . the available amount with the banks comes down.A increse in the repo rate means banks get money at a higher rate than earlier and vice versa. "Inflation is now being significantly driven by demand-side factors.75 from 5. So how do interest rates affect the rise and fall of inflation? Higher interest rates put less borrowing power in the hands of consumers (business). The Monetary Policy aims to maintain price stability. The move was aimed to moderate inflation by reining in demand pressures and reduce the volatility of short-term rates.0% to 4.

and in developing economies in recent years has been the phenomenon of inflation. demand pull. Relationsip between Monetary Policy and Inflation. which yield quick capital gains. Based on the source of inflationary pressures. some sections of society gain while other sections lose. The situation begins to cause worry when this increase in price level exceeds a tolerable limit. When prices increase they do not affect all sections of the society uniformly. It diverts investment into channels like acquisition of land and other assets. The persistence of inflation also causes permanent damage to society. When prices rise. it has been customary to distinguish three types of inflation. Inflation can be described as a situation marked by a continuous increase in price level. The measured inflation rate at any point in time will be made up of an array of individual price . When inflation continues over a period of time it also erodes the motivation for saving. cost push and structural. However In controlling inflation the authorities must not only identify the causes but also must evaluate other side effects that may arise as a result of the pursuit of anti.inflationary policies.

Thus one of the key taks in controlling the inflation rate is to control the excessive money supply in the economy. Hence. If consumers want to buy the same amount of all goods and services as before.To contain inflationary pressures in the economy.this would slow down the The food price inflation rose from 10. there cannot be a sustained rise in prices unless incomes and spending are also rising. they will now have to spend more . In simple terms by increasing the interest rates say reverse repo and repo ( as in the current case).inflation is likely to rise.3%. Imagine the price of cinema tickets has risen. unless there is spare capacity in the economy . by hiking the Reverse Repo rate. 10% or 100%. changes.whether it is 1%. the RBI aims to increase the cost of borrowing money there by reducing the supply of money. The hike in Reverse Repo is 25 bps more than the hike in Repo rate. According to experts. We can demonstrate this by considering what happens when the prices of some products are rising. This would impact (reduce) money that is spent by consumers and businesses.because the price of one of the products they consume has risen. Inflation is usually generated by an excess of demand over supply. or alternatively if consumers are prepared to spend a bigger proportion of their incomes and save less. RBI has tried to lower the non-food credit off take which is currently at 22. demand needs to grow roughly in line with output. Something more fundamental determines the amount of inflation in the economy .86% to 11. In general it is percieved that prices raise when more money chases few goods. This step would lead to banks parking more money with the RBI. then higher prices will mean consumers either will have to buy fewer cinema tickets or buy less of something else. The current level of credit off take is higher than RBI’s projection of 20% for the year. If demand grows faster than this. Output grows over time at a rate which largely depends on factors which increase productivity. But if total spending does not rise.71% for the week ended August 21. It is expected that there will be a large dip in food prices after October as kharif harvest would bring down the prices.47% while the fuel price index stayed flat at 12. Any fall in demand for goods and services will put downward pressure on prices. One of the underlying causes of inflation is the level of monetary demand in the economy - how much money is being spent. . So although higher costs or other factors might cause some prices to rise.such as after a recession . This will only be possible if their incomes are rising. But the amount of inflation in the economy is about more than just the sum of all individual price changes.

What about long-term impact? Interest rate hikes adversely affect the long-term payments of the loans as they have a direct impact on your equated monthly installments (EMI). Interest payments on credit cards and loans are more expensive. Increase in mortgage interest payments. . There are two reasons first is the impose of excise duty by Government in budget and other reason being the recent hikes in interests on car loans by the lenders. Therefore this discourages people from borrowing and saving.5 lac (Rs 350. But on the contrarily it can be the best time for buying a Car as the interests are going to be high in the near future. This is a significant impact on personal disposable income Increased incentive to save rather than spend. Higher interest rates increase the value of £ (due to hot money flows. as bankers say that interest rates could go up by 0. below which banks are not allowed to price their loans. This has the effect of reducing Aggregate demand in the economy. For example. Related to the first point is the fact that interest payments on variable mortgages will increase. Investors are more likely to save in British banks if UK rates are higher than other countries) A stronger Pound makes UK exports less competitive . repayments may increase by over Rs 3.25% 3)axis-8. Bankers have held that in the present system there is an “upward bias” in interest rates.500 more every month for a home loan of Rs 20 lac. 5% increase in interest rates can increase the cost of a £100.75% Increases the cost of borrowing. Impact on Car loans If you are planning to buy a new car it is not the right time to do so. They have increased the rate by 75 to 100 basis points.with RBI increasing the key policy rate along with the fact that kharif harvest would bring down the prices. This means that consumers may have to fork out up to Rs 1.000 mortgage by £60 per month. The present base rates of public sector banks are in the range of 7.000) over a 20- year period on a Rs 20 lac (Rs 2 million) home loan. This will have a big impact on consumer spending.5-1 per cent after RBI’s hawkish policy aimed at containing inflation All fresh loans of banks extended after July 1 are linked to the base rate. Higher interest rates make it more attractive to save in a deposit account because of the interest gained. Therefore other areas of consumption will fall.reducing exports and increasing imports. People who already have loans will have less disposable income because they spend more on interest payments. This is because a 0.5-8.5% 2)icici-8. if the bankers hike interest rates by up to 1 per cent. 1)hdfc-8.25 per cent. it seems that overall inflation including the fuel price index will fall in the months to come.

households are left with less disposable income. people still have to pay the bills. revenues and profits). The Interest Rate Essentially. it does not have an immediate impact on the stock market. increases in the discount rate also cause a ripple effect. especially if they carry a variable interest rate. A rise in interest rates discourages investment. changes in the federal funds rate affect the behavior of consumers and business. However. borrow money from banks to run and expand their operations. Remember that one method of valuing a company is to take the sum of all the expected future cash flows from that company discounted back to the present.Reduced Confidence. the increased federal funds rate has a single direct effect . too.) Stock Price Effects Clearly. Less business spending can slow down the growth of a company. When the banks make borrowing more expensive. Individuals are affected through increases to credit card and mortgage interest rates. Therefore. This means that people will spend less discretionary money. Homeowners know this scenario quite intimately. The first indirect effect of an increased federal funds rate is that banks increase the rates that they charge their customers to borrow money. read When Companies Borrow becomes more expensive for banks to borrow money from the Fed. This price fluctuates as a result of the different expectations that people have about the company . which will affect businesses' top and bottom lines (that is. After all. companies might not borrow as much and will pay a higher rate of interest on their loans. Interest rates have an effect on consumer and business confidence. This has the effect of decreasing the amount of money consumers can spend. resulting in decreases in profit. Instead. and when those bills become more expensive. (For extra reading on company lending. it makes firms and consumers less willing to take out risky investments and purchases. interest is nothing more than the cost someone pays for the use of someone else's money. take the sum of the future discounted cash flow and divide it by the number of shares available. businesses are also indirectly affected by an increase in the federal funds rate as a result of the actions of individual consumers. and they have to pay the bank for the Effects of an Increase When the Fed increases the federal funds rate. To arrive at a stock's price. but the stock market is also affected. and factors that influence both individuals and businesses are affected. But businesses are affected in a more direct way as well. They have to use a bank's money (through a mortgage) to purchase a home. They.

or both. the "risk-free" rate of return goes up. newly offered government securities. one can never say with confidence that an interest rate hike by the Fed will have an overall negative effect on stock prices. Forces That Move Stock Prices and What causes a significant move in the stock market?) Investment Effects For many investors. Maximum loan 85% of the cost of the property (including the cost of the land) and based on the repayment capacity of the customer Maximum Term 20 years subject to your retirement age. Therefore. When people invest in stocks. However. Such gains come from stock price appreciation. Investors wish to see their invested money increase in value. or the indexes (like the Dow Jones Industrial Average or the S&P 500) that many people equate with the market. Furthermore. . investing in stocks can be viewed as too risky compared to other investments. investors will not get as much growth from stock price appreciation. the total return required for investing in stocks also increases. they are willing to buy or sell shares at different prices. investors might feel that stocks have become too risky. (To learn more. and will put their money elsewhere. will go down. making stock ownership less desirable. the whole market. making these investments more desirable. check out Why Do Markets Move?. In other words. All else being equal.then the estimated amount of future cash flows will drop. depending on their own tolerance for risk and the company they are increased interest rate is only one of them. Because of those differences. different people have different risk premiums. If a company is seen as cutting back on its growth spending or is making less profit - either through higher debt expenses or less revenue from consumers . If enough companies experience a decline in their stock prices. this will lower the price of the company's stock. The desired return for investing in stocks is the sum of the risk-free rate and the risk premium. or a premium above the risk-free rate. are often viewed as the safest investments and will usually experience a corresponding increase in interest rates. in general. they need to be compensated for taking on the additional risk involved in such an investment. Interest rates are not the only determinant of stock prices and there are many considerations that go into stock prices and the general trend of the market . as the risk- free rate goes up. Of course. With a lowered expectation in the growth and future cash flows of the different times. the payment of dividends . if the required risk premium decreases while the potential return remains the same or becomes lower. such Treasury bills and bonds. a declining market or stock price is not a desirable outcome. Therefore. When the Fed raises the federal funds rate.