The Reserve Bank of India has brought a new methodology called MCLR – Marginal Cost of Funds based Lending Rate for setting lending rates by banks. This replaces the existing base rate system from April 2016 onwards. It is worth noting that earlier in 2010 RBI had abolished PLR Based Rate to introduce the base rate system.
As per the new RBI guidelines, banks will now have to prepare internal benchmark lending rates every month for different maturity tenures viz overnight, one month, 3 months, 6 months, 1 year and more if desired. Once the MCLR is fixed the bank cannot do any lending below MCLR for a particular maturity slab. The actual lending rate shall be determined by adding spread to MCLR.
MCLR is comprised of the following are the main components.
- The marginal cost of funds;
- Negative carry on account of CRR;
- Operating costs;
- Tenor premium
The marginal cost of funds is calculated with 92% weightage of Borrowing Cost i.e. interest rate on savings, term deposit or other borrowings and 8% weightage of Return on Net worth.
The new formula is expected to address the RBI’s primary objective of expediting monetary policy transmission along with augmenting uniformity and transparency in the calculation methodology of lending rates.
The lending rate based on the marginal cost of funds is often lower than the base rate resulting in lower EMIs for borrowers. Most banks decide lending rates based on their average cost of funds. Experts believe that the implementation of MCLR can bring down the lending rates by up to 1 percent in some cases.
The author Dilkhush Jha is a student of final year in Advanced Diploma Program of TKWs Institute of Banking & Finance. Along with his graduate studies, he is also pursuing Company Secretary as an integrated certification with his course at TKWsIBF. In 2014 he achieved an All India 22nd rank in the CS Foundation examination conducted by ICSI.