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RBI looking at how NBFCs, HFCs set their lending rates
September, 19th 2019

The Reserve Bank of India (RBI) is studying how non-bank lenders and home financiers price their loans, close on the heels of directing commercial banks to link their loan rates to external benchmarks.

The matter came up at an internal RBI discussion on external benchmarks, which are binding on all banks beginning 1 October, a person aware of the development said.

The central bank is keen on greater transparency and order in the rate-setting process at non-banking financial companies (NBFCs) and housing finance companies (HFCs), which are not bound by RBI regulations, the person said on condition of anonymity.

“When we were looking at external benchmarks, there was this issue as to what to do with the NBFC and HFC sector. We decided that since they are not even on the marginal cost of funds-based lending rate (MCLR) regime, we must first graduate them to some level and then think of external benchmarks," the person said.

However, the person added that while the central bank is examining the rate-setting mechanism, it is in no way going to implement external benchmarks for these entities anytime soon.

The central bank has mandated various anchor rates—benchmarks based on which lending rates are set—for bank loans since 1994, before which interest rates used to be set by RBI. The way banks set interest rates is critical for the smooth transmission of policy rates. To make this process transparent, RBI has over the years directed banks to price their loans against their benchmark prime lending rate (BPLR), base rate and then MCLR. However, this is the first time banks have been asked to link their lending rates to an external benchmark.

The official said the primary advantage of an external benchmark over an internal rate is transparency. While certain costs such as business strategy and operating costs were part of the anchor rate under the MCLR regime, the external benchmark ensures all those are part of the spread and not built into the anchor.

“At present, there is no mandate from the central bank to non-banks and housing finance companies to determine their rates based on an anchor, nor are there instructions on what the anchor should be or even how it should be calculated," the person said, adding RBI intends to bring some order to this process before graduating to the next step.

Some HFCs use prime lending rate as their benchmark for loans and offer loans at a discount to this rate. For instance, Housing Development Finance Corp. Ltd (HDFC) has a retail prime lending rate (RPLR) of 16.75%, while it offers floating rate home loans at rates of 8.35-9.25%.

“We need to graduate them and we are examining the issue of transparency in NBFC rates and will have to take it forward. We also have to be clear that they are not in the same market as banks and have to therefore take that into consideration," the person said.

While NBFCs have always been under RBI’s supervision, this regulatory jurisdiction was extended to HFCs only recently. Following the crisis at non-banks last year, the Union budget in July expanded RBI’s regulatory span to include HFCs. Following this, RBI said in August that HFCs will be treated as a category of non-banks, adding it will release a revised regulatory framework for these entities.

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