Everything About MCLR: MCLR in Banking and its Effects

Everything About MCLR: MCLR in Banking and its Effects

MCLR in Banking

MCLR is actually Marginal cost of Fund based Lending rates. Earlier, bank loan interest was calculated on a Base rate. Banks have been set the 5 benchmarking MCLR rates for various time durations, ranging from one day to one year. Home loans are provided on the basis of six months or one-year lending MCLR rates as they are sanctioned for a long term. There are a number of factors that affect the MCLR like interest rate given to the customer who deposits the funds in the bank, the repo rate, the return made on capital invested and the negative carry on account of CRR. So it is necessary to know the concept that what is MCLR, before opting a home loan. If one wants to change the home loan interest from base rate to MCLR then a written application has to be provided to the bank. MCLR is the minimum benchmark rate below which a bank cannot lend money to a borrower for the loan. Additionally, a financial institution will usually charge a spread over the MCLR which depends on the credit profile and eligibility of the borrower in question. In the MCLR system, customers get the benefits of any reduction in interest rates much faster than in case of the earlier system. There is a reset period of 6 months or 1 year after which the new rates come into effect.

Effects of MCLR

1- Effect of MCLR on Monetary Transmission in India

RBI determines the monetary policy and it noticed that the banks were not passing on the rate cut benefits to the customers. The quantitative part of the economy is based on the fact that banks have more liquidity and they will lower their rates when the RBI cuts the rate. When RBI found that the banks were not doing that, they introduced the MCLR or the Marginal cost lending rate. With the change that comes with it, RBI can work more quickly on the economic policies. The whole purpose of the change in rate is about the liquidity in the country and the efficiency of the MCLR will be determined with time.

Additionally, benefits of rate cuts are quickly transmitted to borrowers under the MCLR system. This is because MCLR linked home-loans have small reset periods, i.e. 6 months or 1-year post which the new rates kick into place. According to RBI home loan guidelines, any reduction in interest rates during this time will automatically reflect on the home loan account after the reset period. As a result, the home loan EMI or tenure will automatically be lowered and borrowers will get the benefit of any fall in interest rates. At the same time, rates may increase after the reset period in case interest rates go up due to monetary policy changes.

2- Effects of MCLR on Loan Rates

The RBI introduced the MCLR rate so that the customers can get the benefit of rate cut. Other rates are usually higher than MCLR but when the RBI cuts the rates, the benefit does not reach the customer, but they will with the MCLR. There are five MCLR rates, overnight, one month, quarterly, six month and one year. If one is thinking about how to switch home loan from base rate to MCLR then they have to submit a written application.

The MCLR was introduced by the RBI in April 2016 with a view towards improving the entire system of lending rates which was steadily rising. The MCLR calculation is now done on the basis of the rate of interest on deposits and repo rate. In the base rate regime, financial institutions took longer time to change rates of interest as per repo rate changes. Even when the RBI made periodic changes to repo rates, lenders did not change their lending and deposit rates suitably in turn. For MCLR, different customer types will have varying interest rates which comprise of the MCLR and a differing spread.

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