Interest Rates Set to Ease: Impact on Borrowers and Savers
- October 7, 2024
- Posted by: OptimizeIAS Team
- Category: DPN Topics
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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%.
- Floating Rate Loans:
- 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.
- Deposit Rates:
- 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.