1% rate hike may up housing EMI by 7%

NEW DELHI: Interest rates are all set to go up by 50-100 basis points,
following the RBI's decision to increase the lending rate on funds to
banks by half a percentage point. Punjab National Bank (PNB) CMD K C
Chakrabarty said the step taken by RBI will lead to a minimum increase
of 50 basis points in interest rate. Some banks might increase the
rate even to 75 basis points, he added.

However, a senior official of a private sector bank said increase in
the lending rate might go up to one percentage point (100 basis
points). As the interest rates are going upward for last quite some
time and not likely to come down in the near future due to
inflationary pressure , many banks will increase the rates by one
percentage point from July 1, 2008.

CMD of Union Bank MV Nair said the present round of increase in the
policy rates will force them to raise their
He said the present tight money policy pursued by RBI to contain
inflation will affect more those banks which normally borrow in the
overnight money market to meet their lending requirements. Because of
rise in the repo rate by 50 basis points to 8.50%, the interest rates
on short term funds has gone up immediately.

In fact, many banks had not increased their lending rates, when RBI
had increased its repo rate any cash reserve ratio in April.

A senior banker said that banks had absorbed them thinking that
interest rate will come down. But as inflationary pressure aggravated,
and RBI tighten the money supply further, he said, banks have no
choice but to increase the rates.

According to a senior banker, the cash reserve ratio has been
increased by 1.25 percentage point in the last three months to 8.75%.
This alone has increased the cost on funds by 45 basis points. Besides
this, because of repo rate hike, banks will be forced to hike the rate
by 50 to 100 basis points.

The worst hit by this would be the home loan borrowers. A senior bank
official said that as the rates are increasing, default rates would
also go up.

This will increase the cost of funds, forcing banks to further hike
the rate. At the same time, as interest rates are going up, the value
of the government securities will also fall. To minimize these
effects, CMD of a bank, who does not want to be quoted, said that
banks will have no choice to lend at much higher than the prime
lending rates, which might be increased by only 50 basis points.

That means, the difference between real rates that a customer will
have to pay will be higher than the rate that the bank will fix for
its best of the customers.

As shown in the chart, increase in the interest rate by 100 basis
points on a 20-year loan leads to increase in EMI by almost 7%. On the
other consumer loan also, the increase in the rate will be higher than
one percentage points.

At the same time, RBI is likely to sell dollar to contain the
depreciation of rupee. The rupee's depreciation has led to increase in
the import cost, which has also contributed in the rise in the
domestic prices. But, this will further tighten the liquidity. A
senior banker said that such majors will only worsen the condition for
borrowers.