India’s largest bank State Bank of India (SBI) has reduced its marginal cost of funds-based lending rate (MCLR) by 5 basis points (bps) across all tenors with one-year MCLR coming down from 8.45% to 8.40%, effective 10 July. One bps is one-hundredth of a percentage point. This is the third, though minor, reduction in MCLR by SBI in the current financial year.
This will benefit borrowers from SBI having MCLR-linked floating rate loans, like home loans. However, this might not reflect in savings for all home loan borrowers.
Gradual cut in MCLR
The Reserve Bank of India (RBI) has reduced the benchmark repo rate by 75 bps over the last three monetary policy reviews; in the same period, SBI has reduced its MCLR three times by 5 bps each. Other banks too have been reducing their MCLR only by 5-10 bps at one go.
RBI has constantly expressed concern over slower transmission of changes in interest rates to end customers by banks.
The reason for the slower transmission in rates is primarily faster growth in demand for credit (loans), while growth in deposits is comparatively slower. Banks use the deposits collected to give out loans. As growth in deposits is slow, banks are reluctant to sharply reduce deposit rates, which could further reduce growth in deposits. The interest that banks pay on deposits they collect is reflected in their cost of funds which in turn is reflected in MCLR. Hence, as deposit rates are not going down sharply, MCLR and MCLR-linked loans will also see slower transmission of reduced interest rates.
What should you do?
As a consumer, your interest rate does not change every time RBI changes the repo rate. Similarly, it does not change each time your bank revises its MCLR. Banks, typically, review MCLR every month and the change, if any, is announced.
For you, as a consumer, it makes a difference only if the date of revision in MCLR is closer to the date of your interest rate reset. For instance, if your loan agreement states that your rate will be reset once a year based on one-year MCLR, and your reset is scheduled in May, then the changes made to MCLR in July will not impact your loan and its interest rate until May next year. The change accumulated in MCLR over the period, positive or negative, will be reflected after the reset date.
Should you look for cheaper options? If you have a home loan from a non-banking finance company or a bank that charges a significant spread over MCLR, then you can look for a cheaper home loan, like the one from larger public sector banks like SBI. However, make sure that the switch effectively results in savings for you as a switch might involve documentation and processing charges that could negate your savings. It is important that you clearly understand the charges and make sure that the net gains that will accrue to you after the switch are higher than the switching charges.
Though even a minor change in effective rate will result in some savings over the loan repayment period, one way to ensure that the savings are worth the effort is to see if your net savings in the first year after switching the loan is higher than the costs that you pay for the switch. Financial advisers suggest that a difference of 50 bps or above in the effective interest rate usually makes the loan switch worthwhile