Elevated Borrowing Costs May Rise Further If RBI Hikes Rates
Borrowings costs have already risen sharply between the April and June policy reviews
Even before India’s Monetary Policy Committee decides to hike interest rates, corporates and retail borrowers have seen borrowing costs rise. Should the MPC decide to increase the policy rate now, the cost of funding could rise further, said money market experts.
The MPC commenced its three day meet on Monday. While most economists expect a status quo on rates, some expect a 25 basis point hike in the policy rate in either June or August.
Government and corporate bond yields have already run up in anticipation of higher policy rates. High government borrowings and a reluctance from public sector banks to participate in the bond markets has also contributed to the rise in rates.
Since the April review of monetary policy, the 10-year government bond yield has risen by 75 basis points. Corporate borrowing costs have mirrored this.
AAA rated borrowers now borrow funds for a year at 8.53 percent compared to 7.87 percent at the time of the last policy review. Five-year money now comes at a cost of 8.63 percent compared to 7.58 percent in April.
Short-term rates have also risen – a three-month commercial paper rate is now up 50bps since late-2017, noted DBS in a research note dated June 1.
According to a Motilal Oswal report dated June 4, market rates for short term and long term debt instruments, have tightened in anticipation of rate hikes by the RBI. This has also contributed to a wider spread between 10 year sovereign yield and current policy repo rate, the brokerage house said.
Multiple macro economic factors have characterised the time elapsed since the previous Monetary Policy Committee meeting until now. Bond yields have rallied, demand has been lacking, U.S. has been hawkish and there is fear of inflation. There is uncertainty and nervousness among traders.Ajay Manglunia, Head of Fixed Income Advisory, Edelweiss Financial Services
The rising costs in the bond markets have also impacted retail borrowers as the marginal cost lending rate (MCLR) of banks has started to rise.
Last week, a handful of banks raised their benchmark rates. This includes large lenders like State Bank of India, ICICI Bank Ltd. and Punjab National Bank. The country’s largest mortgage lender HDFC Ltd also raised its retail prime lending rate by 10 basis points.
The increase in retail rates is also a consequence of a pick-up in demand for bank credit while deposit growth remains subdued. For the fortnight ended May 11, credit growth across scheduled commercial banks stood at 12.6 percent, while deposit growth was at 7.7 percent.
Banking liquidity is expected to further tighten towards the second half of the year and could lead to higher corporate and retail borrowing rates.
Unlike earlier, during this interest rate cycle, we will see transmission of rate hikes will be a lot faster. Banks are expected to raise irrespective of whether the RBI chooses to do.Soumyajit Neyogi, Associate Director, India Ratings and Research