3/23/2017 BaseRateArthapedia

BaseRate
FromArthapedia
Share

TheBaseRateistheminimuminterestrateofabankbelowwhichitcannotlend,exceptinsomecasesallowed
bytheRBI.Itistheminimuminterestrateofabankbelowwhichitisnotviabletolend.Thebaserate,
introducedwitheffectfrom1stJuly2011bytheReserveBankofIndia,isthenewbenchmarkrateforlending
operationsofbanks.Thusallcategoriesofdomesticrupeeloansshouldbepricedonlywithreferencetothe
BaseRate,subjecttotheconditionsmentionedinRBIcircularsdatedApril9,2010
(https://www.rbi.org.in/Scripts/NotificationUser.aspx?Id=5579&Mode=0)andJanuary19,2015
(https://www.rbi.org.in/Scripts/NotificationUser.aspx?Id=9499&Mode=0).

ThereasonforintroducingBaseRatewastobringoutthetransparencyinbanklendingratesaswellasto
improvemonetarypolicytransmission.SincetheBaseRatewillbetheminimumrateforallloans,banksare
notpermittedtoresorttoanylendingbelowtheBaseRate.

Background

BaseRatereplacedthebenchmarkprimelendingrate(BPLR),theinterestratewhichcommercialbanks
chargedtheirmostcreditworthycustomer.FollowingtheannouncementintheAnnualPolicyStatementforthe
year200910,aworkinggroupwasconstitutedunderthechairmanshipofShriDeepakMohantytoreviewthe
benchmarkprimelendingrate.Itwasobservedthatthebenchmarkprimelendingrate,whichwasintroducedin
2003,hadfailedinitsobjective.ThebankswerelendingbelowBPLRratesduetocompetitivepressures.For
thesamereason,itwasalsodifficulttoassessthetransmissionofpolicyratesoftheReserveBanktolending
ratesofbanks.Henceaneedwasfeltfortransitiontoamoretransparentandeffectiveinterestratemechanism.

CalculationofBaseRate

Baserateincludesallthoseelementsofthelendingratesthatarecommonacrossallcategoriesofborrowers.
AnillustrativemethodologyofcalculationofbaseratehasbeenprovidedintheRBIguidelines.Asperthe
methodology,baserateisarrivedatbyaddingthefollowing

1.Thecostofdeposits,whichistheinterestrateontotaldeposits
2.AdjustmentforthenegativecarryinrespectofCashReserveRatio(CRR)andStatutoryLiquidityRatio
(SLR)ThenegativecarryonCRRandSLRarisesbecausethereturnonCRRbalancesisnilandthe
returnonSLRbalancesislowerthanthecostofdeposits.NegativecarrycostonCRRandSLRis
calculatedasdifferencebetweeneffectivecostandcostofdeposits,where
1.theeffectivecostistheratioofcostofdeposits(adjustedforreturnonSLRinvestments)and
deployabledeposits(totaldepositslessthedepositslockedasCRRandSLRbalances)
2.costofdepositsistheinterestrateontotaldeposits
3.Unallocatableoverheadcostforbankswhichwouldcompriseaminimumsetofoverheadcostelements,
whichincludescomponentslikelegalandpremisesexpenses,depreciation,costofprintingand
stationery,expensesincurredoncommunicationandadvertisingetc.
4.Averagereturnonnetworth,whichistheamountofnetincomereturnedasapercentageofshareholders
equity.Itisanindicatoronprofitabilityandreturnonshareholdersfunds.

Banksarefreetochooseanybenchmarktoarriveatthebaserate.Theinterestonallcategoriesofloansis
determinedwithrespecttothebaserateexceptthefollowingloans(a)DRIadvances(thatisDifferentialrate
ofinterestschemewherebybanksofferfinancialassistanceatconcessionalrates)(b)loanstobanksown

http://arthapedia.in/index.php?title=Base_Rate 1/3
3/23/2017 BaseRateArthapedia

employees(c)loanstobanksdepositorsagainsttheirowndeposits.Baserateistobereviewedatleastoncein
aquarterandhastobedisclosedtothepublic.Eachbankarrivesatitsbaserateseparately.Banksarefreeto
chooseanymethodologytoarriveatthebaseratewhichisconsistent,appropriateandtransparent.

Data

Historicalbankgroupwiseandoccupationwiseweightedaveragelendingrateonquarterlyandyearlybasisis
giveninRBIdatabase(http://dbie.rbi.org.in/DBIE/dbie.rbi?site=home)(underStatistics/FinancialSector/Key
Rates).FinancialBenchmarksIndiaPvtLtd(FBIL)isproposedtobetheentitypublishingvariousindicesof
marketinterestratesincludingbaserate.

RevisionstoBaseRate

BanksusedtofollowdifferentmethodologiesforcomputingtheirBaseRate.Whilesomeusetheaveragecost
offundsmethod,somehadadoptedthemarginalcostoffundswhileothersusetheblendedcostoffunds
(liabilities)method.ItwasobservedbyRBIthatBaseRatesbasedonmarginalcostoffundsaremoresensitive
tochangesinthepolicyrates.AccordinglyinthefirstBimonthlyMonetaryPolicyStatement201516
announcedonApril7,2015(https://www.rbi.org.in/Scripts/BS_PressReleaseDisplay.aspx?prid=33628)itwas
statedthatinordertoimprovetheefficiencyofmonetarypolicytransmission,theReserveBankwillencourage
bankstomoveinatimeboundmannertomarginalcostoffundsbaseddeterminationoftheirBaseRate.

Inthisrevisedmethod,componentsofBaseRatewillincludemarginalCostofFunds(averageratesatwhich
depositswereraisedinthelastonemonthprecedingthedateofreview,weighedbytheiroutstandingbalancein
thebanksbooks),NegativeCarryonCRR/SLR(NegativecarryonthemandatoryCRRarisesbecausethe
returnonCRRbalancesisnil.NegativecarryonSLRbalancesmayariseiftheactualreturnthereonisless
thanthecostoffunds),Unallocableoverheadcosts(comprisessolelyofcostsincurredforthebankasawhole
and,hence,notallocabletoanyparticularbusinessactivity/unit)andAveragereturnonNetworth(whichisthe
minimumrateofreturnonequityrequiredtobeobtainedbythebankasdeterminedbytheBoardor
managementofthebank).ThedraftguidelinesofRBImaybeseenhere
(https://www.rbi.org.in/Scripts/bs_viewcontent.aspx?Id=3068).

TheactuallendingratesontheloanswillbedeterminedbyaddingthecomponentsofspreadtotheBaseRate
inallcases.Theproposedeffectiverateofimplementationis1April2016.

PresentStatus

TheMarginalCostofFundsbasedLendingRate(MCLR)systemhascomeintoeffectonApril01,2016vide
ReserveBankofIndia(InterestRateonAdvances)Directions,2016
(https://www.rbi.org.in/Scripts/BS_ViewMasDirections.aspx?id=10295).Allrupeeloanssanctionedandcredit
limitsrenewedw.e.f.April1,2016willbepricedwithreferencetotheMarginalCostofFundsbasedLending
Rate(MCLR)whichcompriseofMarginalcostoffunds,NegativecarryonaccountofCRR,Operatingcosts
andTenorpremium.ExistingloansandcreditlimitslinkedtotheBaseRate/BPLRshallcontinuetill
repaymentorrenewal,asthecasemaybe.However,existingborrowerswillhavetheoptiontomovetothe
MarginalCostofFundsbasedLendingRate(MCLR)linkedloanatmutuallyacceptableterms.

AlsoSee
StatutoryLiquidityRatio(SLR)(http://www.arthapedia.in/index.php?title=Statutory_Liquidity_Ratio)
cashreserveratio(CRR)(http://www.arthapedia.in/index.php?title=Cash_Reserve_Ratio_(CRR))
LiquidityAdjustmentFacility(LAF)(http://www.arthapedia.in/index.php?
title=Liquidity_Adjustment_Facility_(LAF))
http://arthapedia.in/index.php?title=Base_Rate 2/3
3/23/2017 BaseRateArthapedia

MarginalStandingFacility(MSF)(http://www.arthapedia.in/index.php?
title=Marginal_Standing_Facility)
MarketStabilizationScheme(MSS)(http://arthapedia.in/index.php?
title=Market_Stabilization_Scheme_(MSS))
PolicyRate(http://www.arthapedia.in/index.php?title=Policy_Rate)

References
1.http://www.rbi.org.in

Contributedby
GayatriNair,IES(2004)(http://www.ies.gov.in/myaccountprofileview.php?memid=316)
Emailgayatrinair25@gmail.com(mailto:gayatrinair25@gmail.com)

Retrievedfrom"http://arthapedia.in/index.php?title=Base_Rate"
Category:Concepts

Thispagewasfirstcreatedon11October2011,at06:22andlastmodifiedon28June2016,at17:40.
Thispagehasbeenaccessed12,919times.

http://arthapedia.in/index.php?title=Base_Rate 3/3