RBI releases New Guidelines for How Banks Determine Base Interest Rates

Reserve Bank of India (RBI) releases New Guidelines for How Banks Determine Base Interest Rates. The new rules, effective April 1, 2016 call for banks to calculate lending rates based on the marginal cost of funds per month, the Reserve Bank of India said Thursday. Apart from helping improve the transmission of policy rates into the lending rates of banks, these measures are expected to improve transparency in the methodology followed by banks for determining interest rates on advances. The guidelines are also expected to ensure availability of bank credit at interest rates which are fair to the borrowers as well as the banks. Further, marginal cost pricing of loans will help the banks become more competitive and enhance their long run value and marginal cost of funds contribution to economic growth.

RBI and marginal cost of funds:

• RBI said all banks will have to follow a new and uniform methodology from 1st April 2016 to calculate base rate as per the marginal cost of funds.

• Marginal cost pricing of loans will help the banks become more competitive and enhance their long run value and contribution to economic growth

• Many banks currently follow average cost of funds or ‘blended cost of funds (liabilities) method’ for calculating the base rate, while a few already take into account the proposed measure of ‘marginal cost of funds’