While most banks are in a wait-and-watch mode on their lending and deposit rates after the Reserve Bank of India’s decision on Tuesday to hike key policy rates—repo and reverse repo—by a modest 25 basis points (100 basis points=1%), it is certain that from now on, anyone applying for a housing loan from a bank will have to pay a margin money of at least 20% of the value of the property. This in effect means that you will have to shell out more from your savings to buy that house you have been eyeing for a while. Earlier, this margin money varied between 10% and 15 %.
The RBI also increased the risk weightage of loans above Rs 75 lakh taken for buying property, which could increase the interest rates on loans for high-cost properties. This is being seen as a pre-emptive measure to rein in the possibility of the creation of an asset bubble and a sign that there could be overheating in the property market.
The RBI, with a focus on taming the currently rigid high inflation rate in the economy, raised repo rate (the rate at which banks borrow from the RBI) to 6.25% and reverse repo rate (the rate of interest that banks get when they park their surplus money with the central bank) to 5.25%. REALTY CHECK RBI’s move to hike loan-to-value ratio signals danger ahead.
These steps were expected by most market players ahead of the policy. The central bank also said that unless anything drastic happens to the economy, it would probably pause in hiking rates for the time being. Simultaneously, IDBI Bank, announced raising deposit rates by 10-50 basis points and lending rates, including home loan rates for loans of Rs 75 lakh and above, by 25 basis points.
RBI said that loan-to-value (LTV) ratio for housing loans should not exceed 80% and increased the risk weight for residential housing loans of Rs 75 lakh and above, irrespective of the LTV, to 125%, from 100% now.
It also increased the standard asset provisioning by commercial banks for all housing loans with ‘teaser rates to 2%.
The raising of LTV ratio to 80% means that any new home buyer going for a housing loan, will have to bring in at least 20% of the value of the property while the balance, 80% or less, could be financed from a bank or a HFC. Top industry officials feel this is a pre-emptive measure and is a warning sign for all in the real estate sector—developers, financiers and also the buyers—that there could be danger ahead. “ The RBI has always taken pre-emptive measures to prevent asset bubbles, particularly in real estate. It is in this context that the RBI has restricted the maximum loan to value ratio to 80% and increased risk weights on housing loans above Rs 75 lakh, said Renu Sud Karnad, MD, HDFC, the mortgage finance major.
Going by tradition, even other housing finance companies (HFCs) not under RBI will perhaps adhere to the same rule of margin money of 20% of the property value. This is because in the past whenever the central bank imposed some new rules related to housing loans by banks, National Housing Bank (NHB), the regulatory body for HFCs, had imposed the same conditions on these companies. Industry players pointed out that the RBI’s steps were more directional since the average LTV in the housing finance industry is at about 67% while average loan size would be between Rs 20 lakh and Rs 25 lakh. On the teaser loan rate, industry players pointed out that such schemes which are still being offered is expected to end by March 2011.
The RBI measure could also work in favour of home buyers in the form of a either a slow or nil rise in real estate prices. “The message from RBI is clear: There is a worry about real estate prices spiralling. This concern will ensure that there is a short-term cap on real estate prices andin the near future it may come down marginally,’’ said Gagan Banga, CEO, Indiabulls Financial Services. “A correction in prices should result in higher volumes given the strong macro-economic conditions,’’ Banga added.
As for lending rates, any decision to hike them going forward will depend upon the availability of funds in the banking system, also called liquidity, bankers and economists said. “The market was expecting these hikes and have already discounted the same. For lending rates to go up, along with hikes in policy rates, we also need to consider the liquidity situation,’’ Arun Kaul, chairman, UCO Bank said. “The combined impact of these two would be reflected in the cost of funds. In case the cost of funds goes up, banks would hike rates. As of now, we are in a waitand-watch mode,’’ he added.
Although it was clear from the tone of the policy document that reining in inflation and managing people’s expectations about the rate of inflation were the RBI’s major concerns, it could not completely put the growth factor in the background.
“The low possibility of any further rate action in the immediate future and the decision to leave the cash reserve ratio unchanged indicate that RBI wants to keep the monetary environment conducive for growth in the economy,’’ said Chanda Kochhar, MD & CEO, ICICI Bank, the largest private sector bank in the country. “RBI has also assured that it will monitor the liquidity situation closely to avoid choking off fund flows required for growth,’’ she added.
Seen from another perspective, the decision to hike key policy rates could also lead to some tough times for the RBI itself, market players pointed out. Lured by higher interest rates in the country compared to most developed markets, there could be a rush of foreign funds into the Indian debt market, just like the rush of FII money that the stock market is witnessing at present. The fact that the RBI is also keeping a strict vigil on capital flows through the debt market route was proved when the central bank’s governor, D Subbarao, dwelt on this topic in substantial detail in his post-policy media conference. “It has often been argued that the widening of interest rate differential between the domestic and international markets will result in increased debt-creating capital flows. While it is true that large interest rate differential makes investment in domestic debt instruments and external borrowings by domestic entities more attractive, we need to keep in view three aspects in the Indian context,’’ the RBI governor said. “First, the economy’s capacity to absorb capital flows has expanded as reflected in the widening of the current account deficit. Second, despite the already large differential between domestic and international interest rates, capital flows in the recent period have been predominantly in the form of portfolio flows into the equity market. This suggests that the interest rate differential is not the only factor that influences capital flows. Third, in line with our policy of preferring equity to debt-creating flows, we still maintain some controls in respect of debt flows.’’
It could be pointed out in this context that in recent times, while several of the top RBI officials have spoken about controlling capital flows, both through the equity and the debt routes, the finance ministry has mostly been speaking against any form of capital control.