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How the RBI’s rate hike is likely to affect your loans

  • Highlights

  • Consumer price inflation is seen at 4.8% in the first half of this year

  • RBI’s monetary policy committee hiked repo rates by 25bps

  • The rate hike announcement is the first such hike since 2014

A credit policy announcement is not merely a statement from the Reserve Bank of India. It is not just for experts who know about financial markets. It is a statement that can change your monthly expenses.

The Reserve Bank of India’s monetary policy committee announced a hike of 0.25% in repo rates or the rate at which it lends to banks, on Wednesday. It is the first hike in interest rates since 2014.

The committee expects retail or consumer price inflation to hover around 4.8% in the first half of the financial year 2018-19. This is well above the 4% target rate of inflation announced. Borrowing rates are usually set keeping in mind the inflation expectation in the near future.

Rising oil prices and weak exports mean the rupee is expected to weaken against major currencies. This also adds to the pressure on the inflation rate as India maintains a current account deficit or owes more foreign exchange than earns to the rest of the world.

The RBI committee also noted in a survey that households across India expect inflation to remain high. Another survey of businesses revealed an increase in prices for input and output. All of this affects you directly if you have a floating rate home loan (here are RBI guidelines for a home loan), personal loan or a car loan.

What happens to your loans?

In this backdrop, your loans are expected to see a change. If the cost of funds for banks or lenders is expected to rise, they are likely to either pass it on to you as a borrower or absorb it. Their ability to absorb this 0.25% hike in rates is dependent on their profitability. If your lender is not making strong profits or has a weak a balance sheet due to non-performing loans, it is unlikely to keep interest rates for you the same. In most situations, your home loans or personal loans based on a floating rate of interest are likely to go up.

A lender with a strong balance sheet may wait and watch the situation. If the RBI monetary policy committee continues to indicate a rising trend in interest rates, your lender may pass on the hike to you.

However, if oil prices fall and prices of key commodities remain stable, the committee may not make any further changes to repo rates. This could mean that your lender may not have to hike borrowing rates for you.

What is the repo rate?

The repo rate is defined as the rate at which the central bank of any country (in case of India, it is the Reserve Bank of India) lends money to commercial banks in the case of shortage of funds. It is used by the authorities to control inflation.

If inflation persists, the central bank of the country may decide to increase the repo rate as this serves as a disincentive for commercial banks to borrow funds from the central bank. This eventually reduces the money supply present in the economy and helps arrest inflation. Similarly, the central bank may take a contrarian position in the event of a fall in inflation.

The repo and reverse repo rates are a part of the liquidity adjustment facility adopted by the financial authorities to manage the money supply.

What should you do?

First, speak to your lender and find out if there are any changes that are likely to be made to the applicable interest rates of your loan. If your borrowing rate is hiked, you may want to take a few steps to bring down the cost of your borrowing.

If you already have a long-term floating rate loan, you could use any surplus cash you receive to reduce the tenor. That way, you can offset the hike in interest rates. Alternatively, in the event of a rate change, you may consider a balance transfer to another lender who may offer you better terms on your existing loan or a higher value top-up.

The statement issued by the RBI committee is ‘hawkish’. It means that the members of the RBI’s monetary policy committee do not expect interest rates to go down in the near future. This is because inflation is expected to remain elevated, hinting that loan rates are unlikely to go down any time soon.

If you are looking to borrow afresh, you may want to choose a flexi loan facility –where you can borrow when you need money and prepay when you can. You are only charged interest on the loan amount you utilize, implying lower interest payments, and EMIs that may be up 45% lower than usual.

Bajaj Finserv, one of the most diversified lenders in the country, also brings you pre-approved loans, where you can avail the financing you need - minus the wait. Simply share your basic details, check out your pre-approved offer, and avail your money.

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