The hike in the central bank?s lending rate to banks on Tuesday by 25 basis points is, in turn, expected to force banks to increase the interest rate at which they provide credit to borrowers. The move comes at a time when banks were already grappling with the fact that high inflation in recent months had rendered the real interest rates non-remunerative for depositors. India is not alone ? real interest rates have turned negative across Asia .
The negative trend in real interest rates across Asia is not very surprising. The chief economist at Morgan Stanley, Joachim Fels points out that weighted global interest rates the world over are 4.3% while global inflation is above 5% pushing the real interest rate negative. Given that in a liberalised global economy with large capital flows domestic real interest rates are generally influenced by the global trends.
Historically, the world over, financial liberalisation has been followed up with a general increase in both the level and volatility of real interest rates. Important factors that cause changes in real interest rates include inflation expectations, trends in the business cycle, fiscal and monetary polices. However, the early evidence on the impact of real interest rates on the macro economy is mixed. Studies on Asian countries have established a positive link between savings and rise in real interest rates while a broader one on developing countries show that real interest rates are also negatively
related to investments. Generally positive interest rates are supposed to provide incentives for saving and also efficiently allocate resources.
A more recent study of real interest rates in 4 industrial economies and 14 developing economies, including India , which had implemented financial reforms showed that real interest rates moved from negative levels to positive sometimes at very high levels especially in countries where the sector was severely repressed.
Trends show that average real interest rates were negative in both industrial and developing countries in the seventies and turned positive in the eighties with the real rates in the industrial economies moving up above that of the developing countries especially in Latin America , up to the mid eighties. But later, the real interest rates in developing countries overtook that of the industrial countries in the nineties.