The government has ordered state-run banks to lower lending rates immediately even before the ink has dried on the Reserve Bank of India's decision to cut interest rates, potentially adding to the corporate governance debate triggered by the imposition of its will on Coal India.
The direction from DK Mittal, secretary, financial services, may put many lenders in a tight spot as profitability and cost structures differ between banks, said two persons familiar with the development.
"With the reduction of CRR and repo rate, all lending rates be relooked at very quickly," Mittal wrote to state-run banks' chairmen. "Direct lending to agriculture has to be 13.5% and growth has to be 25% over 2011-12."
The RBI has cut cash reserve ratio twice and bought government bonds, releasing more than 2 lakh crore into the system to ease liquidity pressures. It cut repo rate - the rate at which it lends to banks -by 50 basis points to 8% on Tuesday. A basis point is 0.01 percentage point.
"Micro management is not desirable when it becomes a routine," said DK Dhingra, former executive director at state-run Uco Bank.
IDBI Bank, a relatively small lender compared with State Bank of India or Punjab National Bank, cut its benchmark lending rates by a token 25 basis points to 15% on Wednesday. But many big banks that raised deposit rates recently are still studying the market.
"It's not acceptable that someone interferes on a daily basis," said Ravi Trivedy, a consultant and former partner at KPMG. "The government or the Reserve Bank can frame the policy parameters. Once these are in place, one should allow the professional managers to take independent decisions. It's a governance issue," he said.
Bank chairmen say policy rate cut does not automatically lead to lower market interest rates since there are issues such as slow deposit growth, rising bad loans and an uncertain environment where inflation could rear its head again and upset all calculations. "I will be genuinely concerned about the deposits growth because bank deposits are getting crowded out because of other competing savings instruments," State Bank of India Chairman Pratip Chaudhuri said after the rate cut.
"We had expected DTC to kick in, it would have been a level playing field for bank deposits and other competing instruments." Deposit growth fell to a seven-year low of about 13% while loans grew 19%, pressuring banks to offer more for funds. Slow deposits growth is also leading to an-time-high loans-to-deposit ratio, a measure of demand-supply for funds, of over 75%.
"Market rates have moved up even as RBI's policy stance was to keep rates stable," says Morgan Stanley's Chetan Ahya. "Indeed, we believe banks will struggle to pass on this easing in the form of cut in lending/deposit rates unless there is systemic improvement in liquidity conditions measured by loan-deposit ratios. For a systemic improvement in loan-deposit ratio, deposit growth would need to be higher than credit growth."
The direction is likely to add fuel to the ongoing debate on whether the government is ignoring the interests of minority shareholders in public sector companies in its zeal to revive the slump in private investments.
The Children's Investment Fund, an investor, is opposed to the state directive to Coal India to sigh fuel supply agreements that will compromise its profitability. The monopoly miner is being forced to sell fuel at lower than international market rates.
"I told state-run bank chairmen to revisit the lending rates as in some retail segments, their rates are higher than even private banks," Mittal told ET. "So, they are losing customers. There is a need for lowering of lending rates and bankers have already agreed upon."
But the profitability of banks, as measured by net interest margin, is still one of the highest with some banks having an NIM of more than 4%, considered high by global standards.
This allows banks to sacrifice some profitability to play a role in reviving growth.
"Direct monitoring is ideally not a good practice," said Robin Roy, associate director for financial services at PwC India. "But in a system where monetary policy transmission is weak and where certain important sectors are starved from institutional credit, it has to be a push phenomenon."
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