The Reserve Bank of India's (RBI) decision to increase its policy rates, leading to a hike in lending rates by banks, will have an adverse effect on sectors such as real estate and automobiles. This increase in policy rates will raise the cost of properties as it increases the cost of funds.
Impact on the Real Estate Sector
The RBI’s hike of the repo rate by 25 basis points is not welcome news for the real estate sector, especially for the housing market. Purchasing activity had already slowed down, and developers may need to minimise property prices to counter the negative effects of this hike, depending on their financial ability to maintain current pricing and risk losing sales until the situation improves.
Developers with a solid capital base are less likely to reduce their pricing than smaller developers with an urgent need to sell their inventories. The industry is already grappling with high input costs, and when coupled with high finance costs, it will pass these along to the end-user. However, there is hope that the development will not discourage buyers from making purchasing decisions.
Banking Perspective
Chanda Kochhar, Managing Director & CEO of ICICI Bank, the country’s largest private sector bank, stated that the RBI’s decision to increase the repo rate by another 25 bps and the existing systemic liquidity conditions could lead to an increase in funding costs for banks, and consequently, in lending rates.
RBI's Monetary Policy
The RBI continues with its tight monetary policy to control inflation, although many analysts doubt its effectiveness in doing so. However, the measure will certainly impact the economic growth of the country. The increase in interest rates will not only make loans more expensive but will also reduce the borrowing capacity of a debtor. According to banking norms, while approving a loan to a borrower, banks ensure that the EMI on the loan does not exceed 40% of the family's total monthly income. An increase in interest rates will lead to a rise in EMI and will consequently reduce the loan amount a debtor can afford on the same income.