ICRA expects borrowers to switch from base rate to MCLR

Declining interest rates, driven by demonetisation, will prompt existing bank borrowers to shift from base rate system to the new MCLR mechanism as it will help them reduce repayment cost, ICRA said today.

Deposits have surged and credit growth has declined post demonetisation. To spur credit demand, banks have undertaken steep cuts in their MCLR in January 2017.

MCLR linked advances are estimated to be around 15-20 per cent of the total banking sector advances currently, with the rest being linked to base rate, ICRA said in a release.

In view of the increased differential of 100 basis points (bps) between base rate and the Marginal Cost of Funds based Lending Rate, the credit rating agency said, it "expects a number of borrowers to switch from base rate to MCLR".

ICRA further said the outlook for the Indian banking sector, especially for public sector banks (PSBs) remains challenging given their weak asset quality, consequent impact on internal capital generation and increasing capital requirements under Basel III regulations.

Private banks continue to be better placed on these parameters given their greater degree of control on asset quality, it said.

After three consecutive quarters of losses, PSBs reported marginal profits on an aggregate basis during the second quarter of the fiscal.

However, their internal capital generation remains weak as reflected by the aggregate losses of Rs 11.60 billion during the first half of the fiscal.

ICRA Group Head, Financial Sector Ratings, Karthik Srinivasan said: "With the declining bond yields, ICRA expects PSBs to report marginal profits during Q3, FY2017."

It further said that capital requirements under Basel III will increase for both PSBs and private banks from March 2017.

Despite their limited growth in advances, PSBs will be constrained to meet the regulatory capital requirements on account of their losses during the year, while private banks will face challenges on account of the continued growth in their advances and weakening internal capital generation, it said.