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More interest rate cuts in the offing

BS Banking Bureau in Mumbai

Barely three weeks after the October 29 Credit Policy, bankers are bracing for a second round of rate cuts.

"We had cut the maximum deposit rates by 25 basis points after the policy announcement. We are ready to cut it by another 25 basis points because the yield on 10-year government paper has dropped around 60 basis points over the past 14 days even though the Reserve Bank of India cut the repo rate and bank rate by 25 basis points each," Bank of Baroda chairman-cum-managing director P S Shenoy said.

With this cut, Bank of Baroda's maximum deposit rate will overlap with the bank rate, 6.25 per cent. The bank may consider a cut in lending rates too and bring down the spread over its prime lending rate, currently pegged at 4 per cent. Bank of Baroda's PLR is 11.5 per cent.

A few other banks are also planning to follow Bank of Baroda's example because the yields on gilts have been dropping drastically ever since the October 29 Credit Policy announced a 25-basis-point cut in the repo rate, the bank rate and the cash reserve ratio.

"The situation is extremely fluid because the rates have been dropping every day. If this trend continues, all of us will have to cut rates to protect the bottom line," said a senior banker.

An analyst at a foreign bank said: The drop in rates is primarily driven by liquidity. The system is flush with liquidity primarily on account of the RBI's dollar buying because for every dollar bought, an equivalent amount of rupees gets into the system."

The RBI will conduct open market operations to pump Rs 5,000 crore (Rs 50 billion) out of the system but it does not seem concerned about the falling rates. Sources close to the central bank said if the inflation rates continued at the current low level, the low rate scenario could be sustained.

"Market forces can even drive the rates further down," a source said.

A slew of banks, including the State Bank of India (SBI), Central Bank and Bank of India, cut their lending as well as deposit rates immediately after the credit policy. SBI cut its spread over the PLR by one percentage point.

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