After the recent hike in interest rates by the Reserve Bank of India (RBI), several banks have raised their benchmark lending rates. These are basically reference rates (below which lenders cannot lend) based on which the lender assigns the interest rates on various loans. Benchmark rates could be either internal or external. External benchmark lending rate (EBLR) could be linked to benchmarks, such as the RBI’s repo rate or other benchmark rates published by the Financial Benchmarks India Private Limited (FBIL). In 2019, RBI mandated all banks to peg interest rates to external benchmarks. The internal benchmark lending rate (IBLR) is the one set internally by lenders, subject to certain conditions. For example, marginal cost of lending rate (MCLR) was also set by lenders under RBI guidelines, but is now only applicable to existing loans that are already linked to MCLR. Retail prime lending rate (RPLR) is another example. Let’s understand the popular benchmark lending rates that banks still use.

MCLR

• MCLR was introduced in 2016 and is calculated based on the loan tenure.
• The four main aspects of MCLR are: tenure premium, marginal cost of funds, operating cost, and negative carry on the Cash Reserve Ratio (CRR).
• The marginal cost of funds is the average rate at which deposits with similar maturities are raised during a specific period before the review date. This cost reflects in the outstanding balance of banks.
• Operational expenses include the cost of raising funds, barring the costs recovered through service charges.
• Negative carry on the CRR takes place when the return on CRR balance is zero, or when it is less than the cost of the funds.

RPLR

• RPLR is the benchmark rate at which housing finance companies usually price their loans for their most trusted and creditworthy customers.
• It is based on the average cost of funds of the bank.
• RPLR includes the historical cost of the bank in raising deposits, the costs of maintaining the CRR, statutory liquidity ratio, operating, maintenance, among others.
• At present, most housing finance companies in India lend at RPLR, as they do not necessarily need to link their loans with an external benchmark. RPLR increases, the interest burden on the borrower also increases.

EBLR

• EBLR is a reference lending rate that is calculated after considering factors, such as the bank’s current financial overview, deposits, and non-performing assets (NPAs).
• RBI mandated banks to adopt a uniform external benchmark within a loan category, from October 1, 2019.
• External benchmarks could include the RBI’s repo rate, government securities yields, or others.
• Banks are free to decide the spread over the external benchmark, but interest rates need to be reset as per the external benchmark, at least once every three months. This means  faster transmission to borrowers.
• Most banks have adopted the repo rate as the external benchmark, and loans linked to these are known as repo-linked lending rates, or RLLR.