Now rising interest rates!

Now rising interest rates!

As the rate hike in loans is inevitable, it’s important for the borrowers to negotiate this impact.

Rising prices, higher cost of goods and fear of  inflation are the words that we have been grappling with on a daily basis. A few days back, while anticipating the fear of inflation, the Reserve Bank of India (RBI) hiked the benchmark repo rate by 25 basis points (bps) to 6.25% and also announced a neutral stance. 

For the past few months Consumer Price Index  (CPI) was going up  and we have been observing steep price hike in crude oil. These two factors combined together indicate a rising inflation threat. So, the surprising hike in repo rate is a routine reaction in the given circumstances to negotiate the risk of inflation.

Notably, the rate was unchanged since August 2017 when the last rate cut was announced. Now the apex bank has reversed its stance and the rate hike witnessed a comeback after over four years. It was in January 2014, when the RBI had increased the repo rate from 7.75% to 8%. It was from 2015 when interest rates started falling.

Observing a neutral stance means a posture that would provide the RBI flexibility to move in either of the directions. But, prevailing risk of inflation may mean that the RBI won't cut down the interest rates.

Before deliberating upon the rate hike and its impact on common consumers, it is worth mentioning that over a period of time, fast financial intermediation even into unreached areas of domestic affairs of a common man has changed the economics of thinking preferences of one and all. In this major shift in thinking process, common people now keenly follow stance of monetary policy whenever the Reserve Bank of India (RBI) announces it. 

Surprisingly, people today know more about percentages of cash reserve ratio (CRR), Repo & Reverse Repo rates than the prices of essential commodities. And let me tell you this fast financial intermediation through loan products almost for all population segments has changed. Today equated monthly instalments (EMIs) have become integral part of most of our lives.

Now the hike in repo rate – the rate at which banks lend money to the banks – will have direct impact on the cost of loans. So the borrowers will have to bear the brunt as interest rate on loans would definitely go up in the coming days. Some banks have already hiked lending rates. The existing borrowers should not be surprised to see their equated monthly installments (EMIs) going up.

However, as per the given interest rate cycle, deposit rates too are expected to move up. So depositors can have a merry time. Precisely, rise in repo rate impacts your finances.

Meanwhile, there is an interesting situation observed in any change in policy rates. Whenever there has been a cut in interest rates by the RBI, banks didn't  reduce their lending rates quickly. But, they were quick to cut interest rate on deposits. Contrary to this, banks have been proactive in passing on rate hikes in the past to borrowers. 

Let me quote a recent report by the International Monetary Fund (IMF) which makes this point: "Pass-through to deposit and lending rates is relatively slow and the deposit rate adjusts more quickly to monetary policy changes than does the lending rate." The report points out that it takes around 18.8 months (a little over one and a half years) for the lending rates to change. The deposit rates change in 9.5 months. 

As the rate hike in loans is inevitable, it's important for the borrowers to negotiate this impact. One has to readjust in the given situation and make himself comfortable on financial front. The key lies in managing money. And managing money is not a big deal. But what is required is to raise loans only for necessity and not for luxury.

However, at the same time one should develop habits of saving money. There are two things that may have kept many of us at bay for developing money saving skills. Either we were never really taught how to manage money, or maybe we simply avoid thinking about it because the situation is so dire. But the dire need is to incorporate some simple money management habits and have a greater awareness of money.

Remember, cutting back on your day-to-day expenses and resisting temptation makes it much easier for you not only to avoid raising a loan for owning luxury life style, but will help you to save something for rainy day.

(The views are of the author & not the institution he works for)

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