RBI keeps repo rate unchanged at 5.5%: Will there be an impact on personal loans?

After slashing the repo rate in the past three monetary policy committee (MPC) meets, the Reserve Bank of India (RBI) kept the repo rate unchanged at 5.5 percent on Wednesday.

As we know, repo rate and interest rates go hand in hand. This means when the RBI cuts the repo rate, banks typically follow suit by moving interest rates in the same direction.

So, when the repo rate is kept unchanged, what impact will it cause on the lending interest rates? Typically, the repo rate has the highest impact on home loans and car loans since they are disbursed at variable interest rates. But does it have any impact on personal loan interest rates as well? 

What impact does the repo rate cause on home loans?

To be able to understand the impact of the repo rate on home loans, one must first understand what a repo rate is? It is the rate of interest at which the RBI lends money to banks for a short period when there is a shortage of funds. 

So, when banks borrow money at a higher rate, they are compelled to lend at equally high rates. Likewise, when repo rates are cut, banks can afford to lend at lower rates. Therefore, a lower repo rate is good news for borrowers, while higher rates are not.

So, do banks immediately cut lending rates soon after a repo rate cut?

Well, this is where the problem lies. Although banks are supposed to tweak their lending rates in proportion to the repo rate, but the quantum of impact may differ. For instance, in response to a 50 basis point rate cut, a bank may cut the interest rate by 30 bps. Another factor that influences the bank’s decision is the system of lending.

Typically, home loans are either linked to EBLR, MCLR, or base rate. EBLR is the latest system of lending, which stands for external benchmark-based lending rate (EBLR), which is linked tothe  repo rate.

It replaced MCLR, which was introduced in 2016. The MCLR is not directly linked to an external benchmark but is revised from time to time based on additional costs incurred by the bank, which also includes the repo rate.

What about personal loans? Do they also follow repo rate movement?

Personal loans generally follow a fixed interest rate structure. This means the rate at which the loan is raised remains the same during the loan tenure. However, during a lower interest rate cycle, banks tend to lower the rate at which future loans are disbursed, whereas current rates remain the same.

Does this mean personal loan borrowers are unaffected by repo rate movement?

To give a short answer -yes. The existing personal loan borrowers are made to repay their loans at the same interest rate regardless of a change in the interest rate cycle in the market.

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