Banks in India fail to pass on RBI rate changes: IMF study

29 Jun 2015

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Banks in India are found to lag in effecting changes in their interest rates pursuant to changes in its policy rates announced by the Reserve Bank of India (RBI), which results in partial or no implementation of policy, reflecting concerns aired earlier by RBI governor Raghuram Rajan.

There is evidence of asymmetric adjustment to monetary policy in India where the lending rate adjusts more quickly to monetary tightening than to loosening, which shows that banks have been less concerned about customer interest, says a new study by the International Monetary Fund (IMF).

Also, the speed of adjustment of deposit and lending rates to changes in the policy rate has increased in recent years, the study notes.

Banks in India are faster in effecting a hike in lending rates, but a rise in their deposit rates is not so quick, according to the IMF Working Paper `Monetary Policy in India: Transmission to Bank Interest Rates', prepared by Sonali Das.

There is fresh evidence about ''significant, albeit slow, pass-through of policy rate changes to bank interest rates in India'', says the study.

''There is evidence of asymmetric adjustment to monetary policy - the lending rate adjusts more quickly to monetary tightening than to loosening. In addition, the speed of adjustment of deposit and lending rates to changes in the policy rate has increased in recent years,'' she says.

The pass-through of a repo rate reduction to the lending rate is partial – the cumulative long-run elasticity of the lending rate with respect to one percentage point reduction in the repo rate has been estimated at 0.43 per cent.

The cumulative long-run elasticity of the deposit rate with respect to the repo rate is 1.58. This indicates that a 1 percentage point increase in the repo rate is associated with a 1.58 percentage point increase in the deposit rate over time.

A larger pass-through to the deposit rate than to the lending rate is as expected, since the deposit rate in the analysis is a 3 month rate while loans tend to have longer maturities, and consistent with previous studies that find greater pass-through to interest rates with shorter maturities.

Pass-through to deposit and lending rates is relatively slow, with the deposit rate adjusting more quickly to monetary policy changes than does the lending rate. In the first step of transmission, it takes 5-1/2 months for 50 per cent of the pass-through from a change in the repo rate to the weighted average call money rate (WACMR).

The IMF has earlier also flagged the issue of lenders in India rather quicker in responding to the central bank's monetary tightening measures.

The issue has been raised by various commentators in India besides RBI Governor Raghuram Rajan, that banks tend to resist passing on the policy rate cuts to consumers.

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