Demonetization: 'Expect banks to cut lending rates soon'

Banks should be able to cut lending rates soon as they have been receiving cash deposits and black money deposits in the aftermath of demonetization, Bank of America Merrill Lynch (BofA-ML) said in a report. 

"We expect banks to cut lending rates as they will likely receive about 2% of GDP of deposits as black money switches to the banking channel," BofA said.

The government de-legalised the use of Rs 500 and Rs 1,000 notes from November 8 midnight, rendering nearly Rs 14 lakh crore in high-denomination notes, worthless. The public was later given till December 30 to swap their Rs 500 and Rs 1,000 notes' stock for the new legal tenders. Black money hoarders could also report their illicit income and take a near 50% tax and penalty on it, under the amended Income Tax Act. 

Since November 8, the banks have received nearly Rs 11.55 lakh crore, 82% of the total amount decommissioned, according to RBI Deputy Governor R Gandhi.

This deposit bounty would give plenty of room to the banks to cut lending rates as their cost of funds will fall, and they will look to lend the money to earn interest income.

Bank of America Merrill Lynch

With banks set to get about Rs 2000 billion of 'black money' deposits, we still expect lending rate cuts after the CRR hike rollback.

The RBI had imposed temporary incremental 100% Cash Reserve Ratio on banks on the deposits received by them between September 16 and November 11, to rein in the excess liquidity in the banking system in the post-demonetized economy. CRR is a percentage of the total deposits that the banks have to hold in cash or park with the RBI as reserve. In this case, the banks were instructed to deposit 100% of the deposits received in the aforementioned period. The move was rolled back on December 7 after the government hiked the limit for Market Stabilisation Scheme (MSS) bonds by nearly 20 times to Rs 6 lakh crore which could now be used instead to suck the excess funds from the banks. 

A rate cut from the Reserve Bank of India (RBI) on December would have further incentivised the banks to cut rates. However, in the fifth bi-monthly monetary policy meet, the central bank kept the repo rate unchanged at 6.25%. While a 1.75% cut in the key lending rates has been effected by the RBI since 2015, the banks have not transferred the benefit fully, a grouse the apex bank has held against the lenders since Raghuram Rajan was the governor. 

D Subbarao Former Reserve Bank of India Governor on 'effect of demonetization on lending rates'

Banks will see their cost of funds declining even in the absence of any further policy easing by the RBI, and this should encourage them to reduce lending rates and pump credit into the economy.

Bank of Baroda (BoB) cut its marginal cost-based lending rates (MCLR) by 20 basis points for various tenors, effective December 7. The State Bank of India (SBI), Punjab National Bank (PNB) and South Indian Bank, HDFC Bank and ICICI Bank have cut their lending rates too. The others are likely to follow suit soon.

BofA further said that it expected "the central bank and the Monetary Policy Committee (MPC) to cut lending rates by 25bps on February 8 (and April) after it surprised with a pause on December 7."