Lower EMIs as Banks go for MCLR reduction

Lower MCLR after demonetisation

All of you must have heard about PM’s Jan Dhan Yojna, but only a few basic details. This post aims at providing detailed insights into the scheme- Jan Dhan Yojana. This topic is beneficial not only for entrance exams but also for interviews and GDs.

Let’s discuss about the Jan Dhan Yojna in detail:

After the demonetisation and remonetisation effort taken by PM Narendra Modi for replacing 500 and 1000 Rupee notes, there were issues pertaining to its impact on inflation and interest rates. A rate cut was expected but that did not happen. Read, RBI unexpected rate cut- a push for economic growth. As banks have enough funds for cheap loans interest rates on deposits have been slashed. EMIs on loans have thus come down.

MCLR is Marginal Cost of Funds based Lending Rate. The marginal cost of funds based lending rate (MCLR) refers to the minimum interest rate of a bank below which it cannot lend, except in some cases allowed by the RBI. It is an internal benchmark or reference rate for the bank. Lending rate is important as this is the rate on the basis of which interest rate for deposits are decided. As the cost of funds decreases, the interest on loans also decreases. The EMIs on loans, paid by the middle class thus witness a reduction.

As per a report, MCLR has been reduced by 90 basis points by the State Bank of India. For Punjab National Bank and Union Bank, the Marginal Cost of Funds based Lending Rate has been reduced by 0.7 percent, from 9.15 to 8.45, in case of Union Bank of India it is reduced by 0.65 to 0.9 percent to 8.65 percent.

Owing to inflation Urjit Patel could not have reduced the interest rates but after November 08, inflation ceased to be an issue. Read, the new governor of RBI Urjit Patel.

As per Narendra Modi, demonetisation has not been done in any country before, at this scale. 86.4% of the currency was to be replaced with new currency notes. As per Piyush Goel, in 2004, 500 and 1000 Rupee notes formed only about 30% of the currency notes. In 2016, it formed 86.4% of the total currency notes. This is a problem when these are used in the parallel economy and do not really contribute to the country’s growth. Black money also is an issue that is expected to be resolved using this. Bank rates depend on change in rates by the Reserve Bank of India. Generally, it is the repo rates and Cash Reserve Ratio that are changed by the central bank. In the past there have been times when inflation was required to be controlled through interest rates. Therefore interest rates were increased to decrease inflation. Last year, the target was to reduce it and keep it between 4 to 6 percent.

Inflation targeting is important but after demonetisation, the interest rates could be slashed. As deposits increase the banks cannot pay higher interest rates. Therefore, interest rates have been reduced. Reducing interest rates on the basis of Marginal Cost of funds on the basis of lending rate can be done by banks. Else, even in case of change of repo rates by the Central Bank, the banks need not reduce the interest rates. EMIs thus do not come down every time. Due to demonetisation, it has become easy to reduce interest rates. Otherwise it is difficult for the Reserve Bank of India to reduce interest rates without taking into account multiple factors.

You might like to read our post on the conscience keeper among bankers- Deepak Parekh.