Home, auto loans to become costlier; FDs to give better returns

Press Trust of India / Mumbai September 30, 2010, 21:37 IST

In a mixed bag of offerings this festive season, banks today decided to push up
interest rates on home and auto loans but also announced that they would provide
higher returns on fixed deposits.
Six banks including Punjab National Bank (PNB), IDBI Bank and Allahabad Bank
said they will hike their base rates -- below which they can't lend -- by up to 50 basis
points from tomorrow that would make home, auto and corporate loans costlier.
On the other hand, three banks -- State Bank of India (SBI), PNB and IDBI Bank --
raised their fixed deposit rates, by up to 75 basis points (0.75 per cent).
The country's largest lender SBI, however, retained its base rate at 7.5 per cent,
despite the Reserve Bank of India (RBI) increasing short-term policy rates at its
review meeting earlier this month.
Domestic private sector lenders Axis Bank and Kotak Mahindra Bank, and foreign
lender Standard Chartered Bank, raised base rate by 25 basis points.
As per the RBI guideline, banks are supposed to review their base rate every quarter.
This is the first review of the rate since it was introduced in July this year to replace
benchmark prime lending rate (BPLR) system to improve transparency
Meanwhile, SBI increased its deposit rates, as also PNB and IDBI Bank, up to 75
basis points to attract depositors to their fold, who have been getting negative returns
when adjusted for inflation.
Taking note of the negative real rates to the savers, in view of high inflation, PNB
raised interest rate on fixed deposit by 25-50 basis points across various maturities,
while IDBI Bank hiked its rates by 15-50 basis points on various slabs effective
tomorrow.
Banks' decision to increase deposit rates, which would be followed by other lenders,
follow the RBI's concerns that lenders are not attracting enough depositors.
SBI, the country's largest bank, has decided to raise deposit rates from 25-75 basis
points (0.25-0.75 per cent) across various maturities
For 91-180 days term deposits, SBI will pay 5.5 per cent interest, up 75 basis points
from the existing rate.
Fixed deposits with maturity period between 1 year and 554 days has been raised by
25 basis points to 7 per cent, while deposits for 555 days would attract 7.5 per cent.
The interest rate on term deposits of between 556 days and 1,000 days, under different
slabs, has been increased by 50 basis points, going up to 7.75, SBI said in a statement.

All this is credited to the RBI increasing the CRR on 27th July. It was almost certain
that rates will go up.
Is it the right time to buy a house on home loan?
I dont think so. The rates are rising, then may rise even further. The rumors in the
market is that it is the time for rising interest rates. We all know how well the banks
do when the rates increase - they are very quick to pass on the increased rates to the
loan borrowers. However, when the rates decrease, no bank promptly reduces the
EMI. So it is the customer who get stuck.
Think twice before going for a long term committment like a home loan spanning
over many long years. You may see that ou take a home loan at 8.5% today, and after
3 months the rate increases to 9% increasing your EMI. Some banks may offer teaser
rates fixed for some initial period of time, but that's something varies from bank to
bank. Even that might be increased if the interest rates increase.

It is also learnt that both the existing and the new loan borrowers will get affected
because of this loan rate increase.

2)There comes the big news which everyone was afraid of - The largest players in the
home loan and car loan markets have gone for a Home Loan Rate Hike and Car
Loan Rate Hike, even the education loan is not spared, the Education Loan Interest
rate is hiked.

3)What is the reason for this increase in loan intrest rates?

The reason is said to be the CRR hike by Reserve Bank of India (RBI), which was
declared on 27th July. Expectations are that there might be another rate hike by RBI
anytime, as the inflation is still not under control. There is another monetary review
expected on September 16th.

Recnetly the Reserve Bank of India raised the reverse repurchase rate to 4.5% from 4% and
the repurchase rate to 5.75 from 5.5%. TheBank Rate has been retained at 6%. The cash
reserve ratio (CRR) of scheduled banks has been retained at 6% of their net demand and
time liabilities (NDTL).

The move was aimed to moderate inflation by reining in demand pressures and reduce the
volatility of short-term rates, RBI governor Subbarao was quoted as saying. "Inflation is now
being significantly driven by demand-side factors," Subbarao said. "It is imperative that we
continue in the direction of normalizing our policy instruments to a level consistent with the
evolving growth and inflation scenarios.

Highlights of RBI Monetary Policy Review for first quarter of the financial year FY2010-
11
• The Bank Rate has been retained at 6.0%
• Repo rate increased by 25 bps from 5.5% to 5.75% with immediate effect
• Reverse repo rate increased by 50 bps from 4.0% to 4.50% with immediate effect
• Cash Reserve Ratio (CRR) of scheduled banks has been retained at 6.0% of their net
demand and time liabilities (NDTL)
• The projection for WPI inflation for March 2011 has been raised to 6.0% from 5.5%
• Baseline projection of real GDP growth for FY2010-11 is revised to 8.5%

In essence the RBI announced no hike in CRR and a 25 bps (bps) increase in Repo rate but
a 50 bps hike in Reverse Repo rate was not expected by many.

So how do interest rates affect the rise and fall of inflation? Higher interest rates put less
borrowing power in the hands of consumers (business).Thus consumers spend less; the
demand slows down, thereby controlling inflation. If the RBI decides that the economy is
slowing down -that demand is slowing down-then it can reduceinterest rates, incresing the
amount of cash entering the economy.
It regulates the supply of money and the cost and availability of credit in the economy. It deals
with both the lending and borrowing rates of interest for commercial banks. The Monetary
Policy aims to maintain price stability, full employment and economic growth. The Reserve
Bank of India is responsible for formulating and implementing Monetary Policy. It can increase
or decrease the supply of currency as well as interest rate, carry out open market operations
control credit and vary the reserve requirements.

Repo (Repurchase) Rate: The rate at which the RBI lends money to commercial banks is
called repo rate. It is an instrument of monetary policy. Whenever banks have any shortage of
funds they can borrow from the RBI.
The RBI raised the repurchase rate to 5.75 from 5.5%.A increse in the repo rate means banks
get money at a higher rate than earlier and vice versa. The repo rate in India is similar to the
discount rate in the US.
Reverse Repo rate: Reverse Repo rate is the rate at which the RBI borrows money from
commercial banks. Banks are always happy to lend money to the RBI since their money is in
safe hands with a good interest.The RBI raised the reverse repurchase rate to 4.5% from 4%
An increase in reverse repo rate can prompt banks to park more funds with the RBI to earn
higher returns on idle cash. It is also a tool which can be used by the RBI to drain excess
money out of the banking system
Cash reserve Ratio (CRR) is the amount of funds that the banks have to keep with the RBI
Cash reserve Ratio (CRR) is the amount of funds that the banks have to keep with the RBI. If
the central bank decides to increase the CRR, the available amount with the banks comes
down. The RBI uses the CRR to drain out excessive money from the system

Inflation:
An issue which has been causing grave concern to monetary authorities both in developed
and in developing economies in recent years has been the phenomenon of inflation. Inflation
can be described as a situation marked by a continuous increase in price level. The situation
begins to cause worry when this increase in price level exceeds a tolerable limit. When prices
increase they do not affect all sections of the society uniformly. When prices rise, some
sections of society gain while other sections lose. The persistence of inflation also causes
permanent damage to society. It diverts investment into channels like acquisition of land and
other assets, which yield quick capital gains. When inflation continues over a period of time it
also erodes the motivation for saving. However In controlling inflation the authorities must not
only identify the causes but also must evaluate other side effects that may arise as a result of
the pursuit of anti- inflationary policies.
Based on the source of inflationary pressures, it has been customary to distinguish three
types of inflation, demand pull, cost push and structural.

Relationsip between Monetary Policy and Inflation.

The measured inflation rate at any point in time will be made up of an array of individual price
 changes. But the amount of inflation in the economy is about more than just the sum of all
individual price changes. Something more fundamental determines the amount of inflation in
the economy - whether it is 1%, 10% or 100%.
Inflation is usually generated by an excess of demand over supply.To contain inflationary
pressures in the economy, demand needs to grow roughly in line with output. Output grows
over time at a rate which largely depends on factors which increase productivity. If demand
grows faster than this, unless there is spare capacity in the economy - such as after a
recession - inflation is likely to rise.
One of the underlying causes of inflation is the level of monetary demand in the economy -
how much money is being spent. We can demonstrate this by considering what happens
when the prices of some products are rising. Imagine the price of cinema tickets has risen. If
consumers want to buy the same amount of all goods and services as before, they will now
have to spend more - because the price of one of the products they consume has risen. This
will only be possible if their incomes are rising, or alternatively if consumers are prepared to
spend a bigger proportion of their incomes and save less. But if total spending does not rise,
then higher prices will mean consumers either will have to buy fewer cinema tickets or buy
less of something else. Any fall in demand for goods and services will put downward pressure
on prices. So although higher costs or other factors might cause some prices to rise, there
cannot be a sustained rise in prices unless incomes and spending are also rising.
In general it is percieved that prices raise when more money chases few goods.Thus one of
the key taks in controlling the inflation rate is to control the excessive money supply in the
economy.
According to experts, by hiking the Reverse Repo rate, RBI has tried to lower the non-food
credit off take which is currently at 22.3%. The current level of credit off take is higher than
RBI’s projection of 20% for the year. The hike in Reverse Repo is 25 bps more than the hike
in Repo rate. This step would lead to banks parking more money with the RBI.
In simple terms by increasing the interest rates say reverse repo and repo ( as in the
current case), the RBI aims to increase the cost of borrowing money there by reducing
the supply of money. This would impact (reduce) money that is spent by consumers
and businesses.this would slow down the

The food price inflation rose from 10.86% to 11.47% while the fuel price index stayed
flat at 12.71% for the week ended August 21. It is expected that there will be a large
dip in food prices after October as kharif harvest would bring down the prices. Hence,
with RBI increasing the key policy rate along with the fact that kharif harvest would
bring down the prices, it seems that overall inflation including the fuel price index
will fall in the months to come.

Impact on Car loans

If you are planning to buy a new car it is not the right time to do so. There are two
reasons first is the impose of excise duty by Government in budget and other reason
being the recent hikes in interests on car loans by the lenders. They have increased the
rate by 75 to 100 basis points.
But on the contrarily it can be the best time for buying a Car as the interests are going
to be high in the near future.

What about long-term impact?

Interest rate hikes adversely affect the long-term payments of the loans as they have a
direct impact on your equated monthly installments (EMI).
For example, repayments may increase by over Rs 3.5 lac (Rs 350,000) over a 20-
year period on a Rs 20 lac (Rs 2 million) home loan, if the bankers hike interest rates
by up to 1 per cent.
This means that consumers may have to fork out up to Rs 1,500 more every month for
a home loan of Rs 20 lac, as bankers say that interest rates could go up by 0.5-1 per
cent after RBI’s hawkish policy aimed at containing inflation

All fresh loans of banks extended after July 1 are linked to the base rate, below which
banks are not allowed to price their loans. The present base rates of public sector
banks are in the range of 7.5-8.25 per cent. Bankers have held that in the present
system there is an “upward bias” in interest rates.
1)hdfc-8.5%
2)icici-8.25%
3)axis-8.75%

Increases the cost of borrowing. Interest payments on credit cards and loans are
more expensive. Therefore this discourages people from borrowing and saving.
People who already have loans will have less disposable income because they spend
more on interest payments. Therefore other areas of consumption will fall.

Increase in mortgage interest payments. Related to the first point is the fact that
interest payments on variable mortgages will increase. This will have a big impact on
consumer spending. This is because a 0. 5% increase in interest rates can increase the
cost of a £100,000 mortgage by £60 per month. This is a significant impact on
personal disposable income

Increased incentive to save rather than spend. Higher interest rates make it more
attractive to save in a deposit account because of the interest gained.

Higher interest rates increase the value of £ (due to hot money flows. Investors are
more likely to save in British banks if UK rates are higher than other countries) A
stronger Pound makes UK exports less competitive - reducing exports and increasing
imports. This has the effect of reducing Aggregate demand in the economy.
Reduced Confidence. Interest rates have an effect on consumer and business
confidence. A rise in interest rates discourages investment; it makes firms and
consumers less willing to take out risky investments and purchases.

The Interest Rate

Essentially, interest is nothing more than the cost someone pays for the use of
someone else's money. Homeowners know this scenario quite intimately. They have to
use a bank's money (through a mortgage) to purchase a home, and they have to pay
the bank for the

Effects of an Increase
When the Fed increases the federal funds rate, it does not have an immediate impact
on the stock market. Instead, the increased federal funds rate has a single direct effect
- it becomes more expensive for banks to borrow money from the Fed. However,
increases in the discount rate also cause a ripple effect, and factors that influence both
individuals and businesses are affected.

The first indirect effect of an increased federal funds rate is that banks increase the
rates that they charge their customers to borrow money. Individuals are affected
through increases to credit card and mortgage interest rates, especially if they carry a
variable interest rate. This has the effect of decreasing the amount of money
consumers can spend. After all, people still have to pay the bills, and when those bills
become more expensive, households are left with less disposable income. This means
that people will spend less discretionary money, which will affect businesses' top and
bottom lines (that is, revenues and profits).

Therefore, businesses are also indirectly affected by an increase in the federal funds
rate as a result of the actions of individual consumers. But businesses are affected in a
more direct way as well. They, too, borrow money from banks to run and expand their
operations. When the banks make borrowing more expensive, companies might not
borrow as much and will pay a higher rate of interest on their loans. Less business
spending can slow down the growth of a company, resulting in decreases in profit.
(For extra reading on company lending, read When Companies Borrow Money.)

Stock Price Effects

Clearly, changes in the federal funds rate affect the behavior of consumers and
business, but the stock market is also affected. Remember that one method of valuing
a company is to take the sum of all the expected future cash flows from that company
discounted back to the present. To arrive at a stock's price, take the sum of the future
discounted cash flow and divide it by the number of shares available. This price
fluctuates as a result of the different expectations that people have about the company
at different times. Because of those differences, they are willing to buy or sell shares
at different prices.

If a company is seen as cutting back on its growth spending or is making less profit -
either through higher debt expenses or less revenue from consumers - then the
estimated amount of future cash flows will drop. All else being equal, this will lower
the price of the company's stock. If enough companies experience a decline in their
stock prices, the whole market, or the indexes (like the Dow Jones Industrial Average
or the S&P 500) that many people equate with the market, will go down. (To learn
more, check out Why Do Markets Move?, Forces That Move Stock Prices and What
causes a significant move in the stock market?)

Investment Effects
For many investors, a declining market or stock price is not a desirable outcome.
Investors wish to see their invested money increase in value. Such gains come from
stock price appreciation, the payment of dividends - or both. With a lowered
expectation in the growth and future cash flows of the company, investors will not get
as much growth from stock price appreciation, making stock ownership less desirable.

Furthermore, investing in stocks can be viewed as too risky compared to other

investments. When the Fed raises the federal funds rate, newly offered government
securities, such Treasury bills and bonds, are often viewed as the safest investments
and will usually experience a corresponding increase in interest rates. In other words,
the "risk-free" rate of return goes up, making these investments more desirable. When
people invest in stocks, they need to be compensated for taking on the additional risk
involved in such an investment, or a premium above the risk-free rate. The desired
return for investing in stocks is the sum of the risk-free rate and the risk premium. Of
course, different people have different risk premiums, depending on their own
tolerance for risk and the company they are buying. However, in general, as the risk-
free rate goes up, the total return required for investing in stocks also increases.
Therefore, if the required risk premium decreases while the potential return remains
the same or becomes lower, investors might feel that stocks have become too risky,
and will put their money elsewhere.

Interest rates are not the only determinant of stock prices and there are many
considerations that go into stock prices and the general trend of the market - an
increased interest rate is only one of them. Therefore, one can never say with
confidence that an interest rate hike by the Fed will have an overall negative effect on
stock prices.

Maximum loan
85% of the cost of the property (including the cost of the land) and based on the
repayment capacity of the customer

Maximum Term
20 years subject to your retirement age.