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RBI Hikes Interest Rates by 25 bps


RBI today hiked interest rates by 25 bps each – the Repo rate is now 6.25% and reverse repo is at 5.25%. But it also said:

Based purely on current growth and inflation trends, the Reserve Bank believes that the likelihood of further rate actions in the immediate future is relatively low. However, in an uncertain world, we need to be prepared to respond appropriately to shocks that may emanate from either the global or domestic environment.

Meaning they may not increase rates the next time around? If inflation doesn’t ease they can’t do very much else anyway.

Few other points:

    • No decision on deregulation of savings bank rates – a discussion paper will be floated for comments by end-December.
    • Interest rate futures on 5-year and 2-year notionals on exchanges has not yet gotten a go-ahead.
    • CDS introduction is further delayed. In it’s current form, this is no big deal.
    • OTC Forex derivatives will be regulated – but specifics only end-November.
    • Compensation guidelines for banks will be issued by end-December.

Housing Loans

  • Loan-to-value on housing loans limited to max 80 per cent. There was no earlier limit.
  • Risk weight on houses – that is, the measure that was used to measure capital adequacy of banks – has changed. For loans of 75 lakhs or more, the risk weight is now 125%.

What this means, I think: Bank capital is a percentage of risk weighted assets – the weights are different for government bonds (0%), inter-bank loans (20%), housing (typically 50%) and other loans (100%). Capital adequacy is 9% to 10%, banks had to have 1/10th their risk weighted assets in capital. That means to lend Rs. 100 in housing loans you had to have Rs. 4.5 in capital (that is, Rs. 100 x 50% housing loan weight x 9% CAR). The housing loan risk weight was earlier changed to 75% for loans above 30 lakh – and for an LTV of more than 75%, the risk-weight was 100%. That means for a 40 lakh loan a bank needed to reserve capital of 2.7 lakhs, and if the LTV was greater than 75%, 3.6 lakhs.

Now, for a loan of 80 lakhs, the bank will have to reserve 9 lakhs (or 9% CAR x 125% risk weight x 80 lakhs). This was for an assumed CAR of 9% – some banks need to use 10%. (Correct me if I’m wrong here)

  • Provisioning – money set aside for loans going bad – for “teaser rate” loans has been upped from 0.4% to 2%.

Overall, nothing major in impact. Bond prices went up – and thus yields went down to below 8% on the 10-years.

Previous Posts on Interest Rates:


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