The Hindu Business Line : Banks want PLR floor kept at 10.5 pc

High-level banking sources said here that they had sought this in view of the severe undercutting of interest rates. Lending rates below this level should not be permitted.

Currently, some banks are lending at rates lower than 9 per cent to some corporates, which was well below the PLR due to intense competition. This rate was actually well below cost and detrimental to the interests of the banking sector, the sources added.

So far, only the housing sector was kept out of this floor rate, in view of the prevailing concessional capital adequacy ratio. The risk weighting for housing advances is currently only 50 per cent or Rs 4.50 for every Rs 100. The sources said that this floor rate was also necessary to compensate for the reduced earnings from Government securities, once the Government completes the buyback programme of high-coupon securities. Once the buyback was completed, the effective earnings investments would drop to less than 7 per cent, which was lower than the weighted average cost of working funds.

The lower returns on investments also completely obviated the possibility of enhancing treasury profits as in the past. The reduced earnings from treasuries would mean that profits for the banking sector would have to come from core operations - lending, unlike the last two years. During the last two years, at least 50 per cent of the banking sector profits were driven by treasury operations.

Further reductions in the deposit rates were theoretically possible, the sources said, to bring down the weighted average cost of working funds, to offset some of the impact in the softening yields. But this would mean that banks would be faced with a flight of term deposits, something that has already been occurring in the sector.

With deposit rates already at historic lows of about six per cent, term deposit accretions have already begun slowing down. In fact, for the week ended March 2,1 term deposits actually fell by Rs 599 crore, the first time in almost four decades. Consequently, the sources said that further reductions in term deposit rates would be at the risk of lower or negative deposit accretions.

The deposit rates would have to be kept at current levels. And to support this level a PLR of 10.5 per cent was essential, they added.

But there are also other reasons for the banking sector insisting on a floor rate. Sources said that such a floor rate would discourage flight of assets from banks, through premature redemptions. Banks now taking out these assets at the current low rates were likely to face large interest rate mismatches in their portfolios if there was any rise in the port folio of bad asset, they added.

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