Determination of MCLR

Determination of MCLR

Tags:      Gig Economy     Economy     WTO     WTO Public Stockholding     MSP     Economic Growth     Masala Bond     Environmental Performance Index     Forecast of Economic Growth     Functions of the Finance Commission

The minimum lending rate that a bank cannot lend at is the MCLR or, the Marginal Cost of Funds Based Lending Rate. In order to determine commercial banks' lending rates, the previous base rate system was replaced by the MCLR system. A fixed internal reference rate for banks is established by the Reserve Bank of India (RBI). The banks and lending institutions that are regulated by the RBI then use this interest rate to determine the minimum interest rate that applies to various loan types. On April 1, 2016, the RBI implemented MCLR to determine loan interest rates. It is a bank's internal reference rate for determining loan interest rates. The additional or incremental cost of arranging an additional rupee for a potential buyer is taken into consideration in this regard. When the country's economic activities drastically shift, the RBI periodically updates this rate. Most of the time, banks can't lend money at a rate lower than this reference rate, which is called the MCLR.

The interest rates are determined by the individual customers' relative risk factors following the implementation of MCLR or, the Marginal Cost of Funds Based Lending Rate. In the past, banks took a long time to reflect changes in the RBI's repo rate in borrowers' lending rates. Banks are required to adjust their interest rates as soon as the repo rate changes under the MCLR regime. The implementation aims to make the structure banks use to calculate the interest rate on advances more transparent. It also guarantees the possibility of bank loans at rates that are fair to both banks and customers.

How can MCLR be calculated? - The loan tenor, or the amount of time a borrower has to pay back the loan, is used to calculate MCLR. The nature of this tenor-linked benchmark is internal. By incorporating the elements spread into this tool, the bank determines the actual lending rates. Consequently, the banks publish their MCLR following careful examination. Loans with varying maturities go through the same procedure, either monthly or on a pre-announced cycle.

MCLR has four main components:

1. Tenor Premium: The cost of lending is different depending on how long the loan is. The risk will be greater the longer the loan is outstanding. By charging a premium, the bank will shift the burden to the borrowers in order to cover the risk. The Tenure Premium is the name of this premium.

2. The Marginal Cost of Funds: The average rate at which deposits with comparable maturities were raised prior to the review date is referred to as the marginal cost of funds. The bank's books will show this expense as their outstanding balance. The Marginal Cost of Borrowings and Return on Net Worth are two of the many factors that contribute to the marginal cost of funds. The Return on Net Worth makes up 8%, while the Marginal Cost of Borrowings makes up 92%. The risk of weighted assets, as indicated by banks' Tier I capital, is equivalent to this 8%.

3. Operating Cost - The cost of raising funds is included in the operating cost, with the exception of costs that are recovered separately through service charges. As a result, it is related to providing the loan product itself.

4. Negative carry on the CRR (Cash Reserve Ratio) - A negative carry on the CRR (Cash Reserve Ratio) occurs when there is no return on the CRR balance. When the actual return is less than the cost of the funds, there is a negative carry. The Statutory Liquidity Ratio Balance (SLR), a reserve that every commercial bank is required to keep, will be affected by this. The bank cannot use the funds to earn any income or interest, so it is accounted for negatively.