Q.3 Briefly discuss the Marginal Cost of funds based Lending Rate (MCLR) and its objectives, operationalised by the RBI since 2016–17.

Ans. As per the new guideline of the RBI, from financial year 2016–17, banks in the country switched over to a new method of computing their lending rate—called the MCLR (Marginal Cost of funds based Lending Rate). The major highlights of the guideline are as under:

• The MCLR will be a tenor linked internal benchmark.

• Actual lending rates will be determined by adding the components of spread to the MCLR.

• Banks will review and publish their MCLR of different maturities every

month on a pre-announced date.

• Existing borrowers will also have the option to move to at mutually acceptable terms.

• Banks will continue to review and publish Base Rate as hitherto.

Banks, by now, have been using either of the following three methods to compute their Base Rate:

(a) average cost of funds,

(b) marginal cost of funds, or

(c) blended cost of funds (liabilities).

As per the RBI, ‘for monetary transmission to occur, lending rates have to be sensitive to the policy rate’. But this was not occurring by now. The MCLR is supposed to bring in the following benefits:

• to improve transmission of policy rates into the lending rates of banks;

• to improve transparency in the methodology followed by banks for determining interest rates;

• to ensure availability of bank loans at interest rates which are fair to the borrowers as well as the banks.

• to help the banks to become more competitive and enhance their long run value.