Impact of RBI’s lending guidelines

Source– The post is based on the article “Impact of RBI’s lending guidelines” published in “The Hindu” on 8th September 2023.

Syllabus: GS3- Indian economy and mobilisation of resources

Relevance- Issues related to banking sector

News– On August 18, the Reserve Bank of India issued guidelines enabling a borrower to transition from a floating interest rate-based loan to one with a fixed interest rate.

What are the detailed guidelines by RBI?

This transition from floating interest rates to fixed interest rates will be based on a policy approved by the lending institution’s board of directors. The policy must also specify how many times such a switch can occur during the loan’s term.

The lending institution must also provide full communication to the borrower about all relevant charges, service fees, and administrative costs associated with the transition.

It is the responsibility of the lending institution to transparently inform the borrower, at the time of loan approval, about the implications of switching from a floating to a fixed interest rate.

The borrower will now have the flexibility to choose between increasing the EMI, extending the loan tenure, or a combination of both.

Furthermore, the regulator has requested that lending institutions provide borrowers with quarterly statements through appropriate channels.

These statements should detail the principal and interest amounts collected to date, the EMI amount, the number of remaining EMIs, and the annualised interest rate for the entire loan term.

What are the differences between fixed interest rates and floating interest rates?

Fixed interest rates remain constant throughout the loan’s tenure. Floating interest rates are subject to market fluctuations and base rate changes.

Floating interest rates are often lower than fixed rates.

Lenders prefer floating rate-based loans because they allow for better adjustments in response to changing market conditions.

The advantages of floating rates can benefit borrowers by potentially increasing their savings. But, the downside is that it can also lead to higher costs in case of rising interest rates.

Floating rate loans typically do not incur prepayment penalties, unlike fixed rate loans.

Fixed-rate loans offer borrowers greater certainty and security. It facilitates better budget planning and financial management.