(Bloomberg) -- The Reserve Bank of India is Asia's most aggressive monetary authority in cutting interest rates. But lenders aren't passing on the reductions to customers, in what could be the biggest challenge to reviving the $2.7 trillion economy.
The spread between the RBI's key policy rate and the weighted average lending rate on outstanding loans from commercial banks is the highest in data going back to February 2012. That's mainly because money supply -- including currency in circulation and bank deposits -- is too low, Neelkanth Mishra, India strategist at Credit Suisse Group AG, wrote in the Business Standard newspaper.
Authorities need to compress this spread to revive demand for goods and services, rather than focus on incentives to companies, Abhishek Lodha, managing director at Macrotech Developers, said in an interview last month.
Read more: India Services Gauge Remains in Contraction Zone in October
“No sector specific sops are needed, we all are big boys,” Lodha said. “What can be done is that we need to put money in the hands of the consumer. Problem is not just RBI lending rates but the delta with lending rates. It is not good to have a policy rate that is so remote from actual lending rates.”
The lending spread has reached levels seen only during crises, Mishra wrote, and suggested that policy makers boost money supply by buying government bonds “in sizable quantities.”
A decision to announce a fresh stimulus could be a tough one for Prime Minister Narendra Modi's government, after its budget deficit topped 90% of its full-year goal only halfway through the fiscal year. Meanwhile, authorities are injecting fresh capital into state-run banks and urging them to issue new credit.
While the RBI's repo rate was cut by 110 basis points between February to August, the weighted average lending rate on fresh rupee loans fell by only 29 basis points and that on outstanding loans increased by 7 basis points.
Loan-growth slumped to 8.8% in October, the lowest level in two years, RBI data show. Bank credit to private, non-financial companies accounts for more than half of India's gross domestic product, according to data from the Bank for International Settlements.
“Monetary transmission has remained staggered and incomplete,” the RBI said in its latest policy review.
To contact the reporter on this story: Jeanette Rodrigues in Mumbai at jrodrigues26@bloomberg.net
To contact the editors responsible for this story: Arijit Ghosh at aghosh@bloomberg.net, Karthikeyan Sundaram
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