How are banks going to pass on the rate hike to customers

Since banks link their lending rates with repo rates, so any change in repo rate will affect your loan EMIs as well. Every time the central bank hikes the repo rates, the banks in turn increase their lending rates.  

Shrikant Shrivastava, Chief Risk Officer, IMGC (India Mortgage Guarantee Corporation) said that now as we have another 35-bps increase in repo rate the EMI’s are expected to go up further by another ~3-5%. As far as loan tenor increase is concerned, I don’t think there is much room for loan tenor increase beyond the 13 years already done till date, due to 190 bps previous increases.

Home loan borrowers who have had their home loan original interest rate at 10-11% and initial loan tenors above 25 years would have had no option but to increase their EMI because any attempt to increase their loan tenor would result in loan becoming negatively amortized. Meaning, the original EMI would not be sufficient to cover the monthly interest payable with the existing EMI thereby resulting in the loan principal increasing every month instead of reducing.

Banks have been increasing their benchmark lending rates since May 2022.

“Most banks have fully passed on the repo rate increase of 190 bps to the consumers of home loans till date. This rate hike of 190 bps has resulted in a loan tenor increase of ~ 13 years for borrowers who had initially opted for 20 years loan period, assuming they had taken a home loan at 6% at the time of home purchase. Alternatively, those borrowers who opted for an EMI increase instead of a loan tenor increase have seen their EMI go up by ~20% already,” said Shrikant Shrivastava.

The financial sector has historically been among the most sensitive to changes in interest rates. Typically, during a rising interest rate scenario, the banking sector passes on rate hikes through the floating rate loans while delaying the rate hikes for deposits, benefitting from spreads, and expanding margins. 

“Banks report strong topline growth due to healthy disbursements, higher loan rates, and robust earnings growth on the back of promising advances. A change in stance to dovish going forward by RBI will lead to rally in the banking segment while a prolonged hawkish stance will impact deposit rates and lead to narrowing NIMs, more so for PSBs,” said Anil Rego, founder, and fund manager at Right Horizons, SEBI Registered Portfolio Management Service provider.