Soft interest rates are history, floods, oil boom to blame

New Delhi, Jan 5 | Updated: Jan 6 2006, 05:30am hrs
The interest rates on government securities are likely to go up for at least the next two years as all yield rates are expected to increase, following the hardening of world interest rates. According to economic think tank, Institute of Economic Growth (IEG), the soft interest rate regime is now over as the world interest rates are going up due to rising oil prices and industrial recovery post 2003.

The prime lending rate (PLR) of banks is also unlikely to go down because of the hardening of interest rates on government securities, the institute said in its latest monthly periodical, adding that banks may have to improve the operational efficiency to restrict the rise in PLR.

Pointing out that the Indian financial markets are now linked to the global financial system, the monthly monitor, brought out by IEG, said except for call money rate, all yield rates are expected to move upwards following the upward movement of the international interest rates.

The soft interest rate regime witnessed during the late 1990s and the early 21st century is now over. The government would have to, therefore, borrow at a comparatively higher cost, IEG said.

The upturn in the interest rates on government securities, which started recently, is now likely to continue for at least about two years, the institute said, but added that it may taper off at a peak much lower than recorded during the high interest rate regimes in mid-1990s.

Elaborating the reasons for this trend, the institute said the real interest rate seems to have reached the floor during the industrial slow down in the early twenties.

Besides, the industrial recovery from 2003 onwards together with the rising international oil prices created a rising inflationary expectation, has also contributed to this upturn in the interest rates,the IEG said

Also, the persistence of high fiscal deficit and the limit to RBI sterlisation policy option has led to an increase in supply of government securities corresponding to the demand, according to the monthly monitor.

To some extent, the upturn is restrained by easy liquidity created by the influx of foreign capital, especially in the form of portfolio investments in government securities and bonds, the institute said.

As per the report the floor of the interest rate in a developing country like India is expected to be higher than the rich countries with surplus capital.