RBI’s policy move won’t do much to rev up auto loans

RBI does not pay any interest on the money that banks keep as CRR

Late last week, the Reserve Bank of India (RBI) launched what is being termed an unconventional monetary policy. Banks have cut loan rates by 5-10 basis points in response. The policy is expected to help banks give out more car and home loans. Will this happen? Mint takes a look.

How did RBI prompt banks to lend more?

For every 100 that a bank raises as deposits, it needs to maintain 4 with RBI as cash reserve ratio (CRR). According to the central bank’s new diktat, up until 31 July 2020, banks don’t need to maintain such reserves against deposits that they lend out as loans for the purchase of automobiles and residential housing, as well as loans to small businesses. RBI does not pay any interest on the money that banks keep as CRR. With the need to maintain reserves on deposits used to give out certain kinds of loans being done away with for the next few months, banks now have more money to lend.

Graphic: Paras Jain/Mint
Graphic: Paras Jain/Mint

Why was there a need for an unusual policy?

As of 31 December, the overall lending growth of banks had slowed down to at least a two-year low of 7% although retail lending growth is still going strong at 15.9%. Within retail lending, growth of vehicle loans is 7.2%. The central bank wants to push up borrowing in this segment by driving down interest rates. The equated monthly instalment (EMI) on a 9% car loan of 5 lakh for a tenure of 60 months comes to 10,379. Let us say that as a result of the new RBI policy, the interest rate on a car loan falls to 8.9%. The EMI will be around 10,355 or 24 less and this is meant to consequently increase borrowing.

Will RBI’s move encourage people to purchase cars?

Even if interest rates come down by 50 basis points to 8.5%, the EMI on a car will be 121 less. Will people buy cars because the EMI is 121 less? People will buy a car or a house when they feel confident about their ability to pay the EMI. But that confidence is simply missing in the economy at present due to the paucity of employment opportunities.

Will this also affect two-wheeler loans?

For two-wheeler loans, the difference between the EMI now and the one if interest rates fall will be even smaller than that of a car loan, given that the amount lent is much lower. Rajiv Bajaj, managing director of Bajaj Auto, recently explained that an “over-regulated” two-wheeler market had pushed up prices by 30% in the last 18 months. This, he said, was the main reason for people not buying as many two-wheelers as they did earlier. RBI’s policy to encourage banks to offer more auto loans can do nothing about this.

So, is there a way out of this situation?

The per capita income in 2019-20 is likely to grow 6.6%, the slowest since 2002-03. This is primarily why consumption has slowed down. This can be changed only by encouraging entrepreneurship and economic activity to push up income. As the Economic Survey says, “Manufacturing units have to conform with 6,796 compliance items”, illustrating “the bewilderingly wide range of rules that the sector faces”. Let us first try to trim this compliance list.