In a possible precursor to further rate cuts, Finance Minister Pranab Mukherjee's meeting with public sector bank chiefs on Monday will review their benchmark prime lending rates and interest rates on loans for automobiles, homes, small and medium enterprises and non-banking finance companies.

The government has indicated that it would like interest rates to be reduced next month, just before elections are announced. Bankers, however, have said a rate cut is only possible in March, a source said.

"If the government wants, we can look at extending additional or special lines of credit to certain sectors, where all public sector banks can participate," a senior executive at a state-owned entity said.

Banks contend that the cost of funds is still high, even though it has been falling through successive rate cuts by the central bank in 2008.

Cutting lending rates will also mean cutting deposit rates and bankers fear losing out to small savings schemes such as
post office deposits and public provident fund as a result, which could eventually hamper resource mobilisation to feed credit growth. Small savings schemes offer 8 per cent plus tax benefits. In contrast, banks have reduced interest rates on deposits and only those with a maturity of four years or more come with tax breaks. For instance, State Bank of India [Get Quote] offers up to 9 per cent.

Since November, public sector banks have reduced lending rates by up to 150 basis points, against 50 basis points by their private sector competitors. Deposit rates have fallen by up to 300 basis points.

Following the latest round of reductions in deposit rates earlier this month, banks have seen resource mop-up drop to Rs 11,300 crore during the fortnight ended January 16 from nearly Rs 70,000 crore in the previous fortnight.

Finance ministry officials have already held discussions with bankers to assess the flow of credit to various sectors.

Mukherjee is also scheduled to discuss the impact of the stimulus package and the utilisation of refinance to National Housing Bank and the small industries lender SIDBI.

The government also wants to assess how banks have fared in extending credit to NBFCs and for commercial vehicle finance. Credit flow to housing, real estate, SMEs and infrastructure and the experience with non-performing assets in these segments is also on the agenda. Banks have been asked to report on their progress on restructuring stressed assets, since the process has to start latest by January 31.

In recent months, banks have scaled down credit to certain segments such as housing, NBFCs and small scale industry owing to a fear of defaults and a drop in demand.

Latest RBI data shows that in the fortnight-ended January 16, lending by scheduled commercial banks, including regional rural banks, was estimated at Rs 13,837 crore against Rs 14,469 crore in the previous fortnight.

With banks going slow on lending, there has been a rise in the statutory liquidity ratio holdings from 25.8 per cent in mid-October to 28.9 per cent in early January.

But data also revealed that public sector banks seen a 28.6 per cent rise in credit flow for the year up to January 2 this year, against 19.8 per cent in the year up to January 4, 2008. In contrast, the growth in credit flow from private and foreign banks has dropped sharply despite demand shifting from equity and overseas markets to the Indian banking system.