Banks face the music as Rajan urges transmission of repo cut

By: | Published: June 3, 2015 12:07 AM

There are concerns that a 25-bps cut may not reduce the lending cost substantially, in turn limiting the credit growth of the banking space

The Street was little enthused with the RBI’s 25 basis points (bps) cut in repo rate. The Bank Nifty slid to a three-week low to 17,977.30 on Tuesday after the central bank announced its second bi-monthly policy for FY16.

The Bank Nifty lost 639.70 points or 3.4%, with all the index constituents ending the session in the red. State-owned lender Canara Bank fell the most with a 4.93% cut, followed by Axis Bank (4.4%), State Bank of India (4.3%), and IndusInd Bank (4%). The Reserve Bank of India cut repo rate by 25 bps to 7.25%, but kept the cash reserve ratio (CRR) of scheduled banks unchanged at 4%.

While the turnaround in the rate cut cycle is considered positive for the banking space, there has been little transmission of the interest rate cuts that have taken place in the first four months of 2015. While the RBI had reduced interest rates by 50 bps between January and March, banks brought down their base rates by 15 to 25 bps.

There are concerns that a 25-bps cut may not bring down the lending cost substantially, in turn limiting the credit growth of the banking universe. However, banks also seem to be reluctant to pass on falling interest rates to maintain their NIM (net interest margin), at the time when credit growth is muted.

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The rising bad loans and muted earnings growth posted by some of the public sector banks in FY15 have also resulted in reduced buying interest in banking stocks. For instance shares of Bank of India, Punjab National Bank , Canara Bank, Bank of Baroda have  lost anywhere between 26 to 37% so far in 2015.

With still weak investment and the need to reduce supply constraints over the medium term to stay on the proposed disinflationary path (4% in early 2018), a more appropriate stance is to front-load a rate cut today and then wait for data that clarify uncertainty, the RBI said in a press release.

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