Interest Rates Set to Ease: Impact on Borrowers and Savers

Interest Rates Set to Ease: Impact on Borrowers and Savers

Sub : eco

Sec: Monetary Policy

• Global Rate Reduction Trends:
  • Globally, central banks like the U.S. Federal Reserve and the European Central Bank are reducing interest rates.
  • The Reserve Bank of India (RBI) has not committed to a rate cut yet, but widespread expectations point to rate cuts in the near future.
  • Currency Exchange Rate: The exchange rate is currently stable.
  • Timing of Rate Cut: The RBI may initiate an interest rate cut by December.
• Fundamental Reasons for Rate Reduction:
  • Lower Inflation: India’s inflation has decreased, allowing room for interest rate cuts.
  • Global Rate Reductions: Major economies are cutting rates, and India is likely to follow.
  • Stable Currency: The exchange rate is stable, which supports the possibility of interest rate easing.
• Impact on Borrowers:
  • Floating Rate Loans:
    • Loans are often benchmarked to external variables like the RBI repo rate or Treasury Bill yields.
    • Any cut in repo rate will lead to immediate transmission to loan rates.
  • Options for Borrowers:
    • Option 1: Keep EMI the same and reduce the loan tenure. This helps in reducing the overall interest paid.
    • Option 2: Reduce EMI and keep the loan tenure the same. Although it eases cash flow, it leads to paying more interest over time.
  • Fresh Loans:
    • Low floating rates are attractive but remember, interest rates move in cycles.
    • During the post-COVID phase, floating housing loan rates had dropped to 6.5%.
• Impact on Savers and Depositors:
  • Deposit Rates:
    • A cut in the RBI repo rate (currently 6.5%) will lead to lower deposit rates.
    • The extent of reduction depends on banks, but it will likely follow the RBI’s rate cut, for example, by 0.5% to 0.75%.
  • Opportunity Cost:
    • Locking in current deposit rates could prove beneficial, as future rates are expected to be lower.
  • Other Interest-Bearing Instruments:
    • Small Savings Schemes: Includes Post Office Schemes, RBI Floating Rate Bonds, and government-sponsored retirement schemes.
    • Corporate Deposits and Bonds: Deposits by corporates/NBFCs and government / corporate bonds will also see similar rate movements.
  • Mutual Funds (Debt MFs):
    • In debt mutual funds, when interest rates decline, bond prices rise, leading to higher returns.
    • The 10-year benchmark government bond yield has already eased from 7.38% to 6.75% over the past year.
• What Borrowers Should Do:
  • For existing loans: Consider keeping EMI the same and reducing tenure to minimize total interest paid.
  • For new loans: Sign up for a loan based on your capacity, keeping in mind that floating rates may rise over time.
• Conclusion:
  • Borrowers benefit from lower rates as loan EMIs decrease or tenure shortens.
  • Savers/Depositors face lower returns but can still benefit if they lock in rates now.
  • The RBI will reduce rates only when inflation is low, ensuring the real return (inflation-adjusted) for savers is not adversely impacted.