Hike in Interest Rates: A Control Measure


Priyank Kothari’s shares his views.

The Reserve Bank of India’s (RBI) decision on June 8 to increase the repo rate by 50 basis points (bps) to 4.90 percent will lead to a 20-25 bps rise in interest rates of banks’ loans and deposits. As an impact, the deposit rates could rise by 20-25 bps and a similar increase will be seen in lending rates too.

Apparently, the role of RBI – the central bank and monetary authority is very crucial in keeping inflation under control and maintain the growth too. The central bank is likely to concentrate interest rate hikes over the coming months in a relatively short tightening cycle. Analysts also expect the RBI to reduce liquidity, reinforcing its fight against inflation and extending its effort to return monetary conditions to what they were like before the COVID-19 pandemic prompted radical action to stimulate the economy. The second announcement by RBI Governor for linking of credit card to UPI platform is also to increase penetration of the digital payment system, aimed to ease the economy.

The rate hike from RBI was anticipated, that being the reason for the market corrections that were already factored in. As retail inflation was at an all-time high at 7.76% , the hike was expected. I think they would keep with the hike until it’s between the 2-6%, the median of RBI’s rates. The hike will mean higher EMIs for new loans and extended tenures for existing floating rate loans.

Here are two probable cases to better understand the impact of hike on home loan:

Case a) If you have a floating rate loan, the interest rate will go up, which will extend the tenure of the loan. The impact will be bigger on longer loans. In case of a 20-year loan, at 7%, every 0.25% hike in rate will increase the tenure by roughly 10 months. The repo rate has been hiked by 0.9% in two tranches. If your home loan has 19 more years to go and the rate is increased by 0.75%, be ready to pay 30 more EMIs. The impact will not be so dramatic in shorter tenure loans.

Case b) If you do not want the loan tenure to be extended, you can either make a lump-sum payment or request for an increase in the EMI. If the interest rate is hiked from 7% to 7.75%, you will need to pay roughly Rs 5,000 per Rs 1 lakh to retain the original tenure. Alternatively, you can get the EMI increased so that the tenure remains the same. The EMI will be increased by roughly Rs 45 per Rs 1 lakh.

If your home loan is nearing completion, you need not get too worried by the rate hike.

Though borrowers will feel the pinch due to higher interest rates, fixed-income investors have reasons to smile. Banks have started increasing their deposit rates, which means higher returns for investors.

This rate hike was needed to bring inflation down and take back all the excess cash available in banking and sectors.

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