Impact of RBI’s Lending Guidelines

GS Paper III Indian Economy

Context:

RBI introduced guidelines enabling a borrower to transition from a floating interest rate-based loan to one with a fixed interest rate.

More on News:

According to RBI, the endeavor was to address borrowers’ grievances pertaining to the elongation of loan tenure and an increase in the EMI amount in the event of an increase in the benchmark interest rate.
The provisions would be extended to existing as well as new loans by the end of the current calendar year.

Differences between the two exchange rates systems:

Basis	Fixed Interest Rate	Floating (Variable) Interest Rate
Meaning	Fixed Interest Rates remain constant throughout the life of the loan.	Rates can change periodically, usually in accordance with a benchmark rate, market conditions, or the lender’s discretion.
Initial Rates	Typically start higher than initial rates for floating rate loans since lenders charge a premium for the certainty of fixed payments.	Often start with lower initial interest rates than fixed-rate.
Advantages	Benefit from protection against interest rate increases regardless of fluctuations in market interest rates.	Borrowers may benefit from potential rate decreases.

Significant Impacts of Lending Guidelines:

Risk Management and Cost Savings: Borrowers can switch to a fixed rate during times of rising interest rates to protect against future increases and switch to a flexible rate during times of falling rates to take advantage of lower costs.
Improved Budgeting: Switching to a fixed rate can provide stability and predictability, while a flexible rate may offer lower initial payments.
Transaction Costs: Switching between fixed and flexible rates may involve transaction costs, which can erode any potential interest rate savings.
Complexity and Uncertainty: Frequent rate switches can introduce uncertainty into borrowers’ financial planning, as they may not know when to switch or how future interest rates will change.

News Source: The Hindu