Why are RBI's rate cuts not fully reflecting in loan rates? Rajnish Kumar explains

Rajnish Kumar, Former Chairman, SBI, explains that complete transmission of RBI's rate cuts is hindered by banks' loan structures and deposit rate rigidities. While repo-linked rates adjust quickly, fixed-rate loans and deposit rates lag. He notes ample liquidity in the system and suggests credit growth depends on demand, not supply, with a slowdown in unsecured personal loans.

You heard the RBI governor. There is no change this time. But do you think it will take some more time before actual transmission happens in the system as far as the banking system is concerned?
Rajnish Kumar: From my experience, I can say that 100% transmission never happens and there are a couple of reasons. On the loan side, the repo linked rates are essentially floating rates. The 100% loan book of the banks is not linked to the repo. It varies bank to bank – 40% to 60%. Second is the rigidity on the liability side. The deposit rate, fixed deposit rates, take time for the banks to transmit and banks also have to protect their NIM.

So, I am not expecting the numbers which the RBI governor stated about the transmission, will change in any significant manner. The repo rate linked rates get adjusted immediately and within two-three days, the rates are changed. For the rest of their fixed rate loan, the rate of interest will change only when there is a reset date and for the new loans, they will come after the downward revision in the rates. Of course, 100% of the new loans have become cheap.


Also, there was an announcement of the new liquidity framework which is currently underway. A consultation paper will be released based on the internal working group. Where do you see the gaps as far as the liquidity framework is concerned?
Rajnish Kumar: We have to wait for the report of the internal working group and once the report is out, then it would be fair to make a comment on that. But from a bank's perspective, we know that through CRR, a lot of pre-emption of resources happens. But last time, as part of the monetary policy, RBI did give some relief to the banks and that is where we are seeing its impact and there is enough liquidity in the system as of now.

We are in a regime where there is ample liquidity in the system and the rates are showing a downward trend and from the peak the rates have come down by 100 basis points. In every monetary policy, we cannot expect that RBI will keep on cutting the rates further.

Liquidity is quite in surplus as compared to the last few quarters and the impact of the CRR cut is yet to be seen. Do you think that there is a scope for further credit growth in the market on the back of the decision which has been taken by the Reserve Bank of India? More importantly, when you are talking about rate transmission, do you think many of the banks which have reported weak macros –at least in the commentary they have stated so– there is also rising stress. Do you think that is also weighing upon the rate of transmission?
Rajnish Kumar: No, I have already explained how and what are the constraints on the banking system and there is rigidity on both sides – the loan book side as well as the deposit side. As far as CRR is concerned, what it does is that because of the pre-emption of resources, when there is a CRR cut, the cost for the bank comes down. To that extent, there is an impact even if it is marginal on the income of the banks. So, it becomes a combination of factors.

In today's scenario, if I look at credit growth, it is a demand-supply function. But today looking at the state of affairs, I do not think there is any supply side constraint when it comes to growth. If there are projects and if there is demand from the corporates, then credit growth can pick up. On the retail side, the banks have been doing well. There were certain pointers from the Reserve Bank of India about their discomfort on the growth of unsecured personal loans. We have seen that there is a slowdown and there is also some stress building up there.

So, the growth in the retail segment, particularly in what we call the P segment, is seeing a slowdown. In the overall structure of lending, a key shift can be seen in the balance sheet of all the banks. I will take the State Bank's example; at one point of time, the corporate book of SBI used to be in the range of 60% and retail, agriculture, and MSME would be 40% and now this ratio has almost reversed where corporate book has gone down to 40%.

So, now which sector will see demand? If you ask me about the bank's capacity to lend, it is very much there. There is enough liquidity and the growth will now be a function of the demand and not as much from the supply side.