MCLR Rises Above Year-Ago Levels Despite Steady Repo Rate

01

A Shift in Lending Benchmarks

The Indian banking sector has reached a significant inflection point in its interest rate cycle. For the first time in 14 months, the Marginal Cost of Funds Based Lending Rate (MCLR) has climbed above its year-ago level. This movement indicates that the internal cost of funds for banks is rising independently of the central bank's policy rate actions.

The one-year median MCLR reached 8.70% in August. This represents a 10 basis point increase from the 8.60% recorded in July. Crucially, this figure is now higher than the 8.60% reported during the same period last year, marking a departure from the relatively stable or declining year-on-year trends observed over the past year.

02

Decoupling from Policy Rates

Traditionally, MCLR movements are closely linked to the Reserve Bank of India's (RBI) repo rate. However, the current trend shows a distinct decoupling. While the repo rate has remained unchanged at 5.25%, lending benchmarks are trending upward. This suggests that factors other than policy rates are now driving the cost of capital for Indian lenders.

The increase is particularly notable because it occurred during a period when banking system liquidity improved sharply. Typically, better liquidity leads to lower short-term rates, but the structural cost of deposits and the repricing of existing liabilities appear to be exerting upward pressure on the MCLR.

The rise in MCLR despite a steady repo rate suggests that banks are now pricing in structural shifts in their liability profiles.

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03

Impact on Net Interest Margins (NIMs)

For CXOs and treasury heads, the primary concern remains the protection of Net Interest Margins (NIMs). As the MCLR rises, existing loans tied to this benchmark will eventually reprice, potentially offering some relief to interest income. However, the rise in MCLR is itself a reflection of higher funding costs, meaning the net impact on margins depends on the speed of asset repricing versus deposit cost increases.

Lenders must now evaluate their pricing strategy for new credit deployments. With the cost of funds rising, maintaining current spreads will require a disciplined approach to loan pricing, especially in competitive segments where borrowers may resist higher rates.

04

Liquidity and Funding Dynamics

The improvement in banking system liquidity during this period has not been sufficient to dampen the rise in lending rates. This suggests that the competition for deposits remains intense across the industry. Banks are likely still adjusting to the lag effect of previous rate hikes and the need to attract long-term retail deposits to fund credit growth.

The structural shift in funding costs implies that even if the RBI eventually pivots toward a rate cut, the transmission to lending rates may be delayed. Banks will likely prioritise restoring their margins before passing on any potential policy easing to borrowers.

05

Strategic Implications for Credit Deployment

As the cost of capital increases, the focus for banks and NBFCs must shift toward high-yield segments and operational efficiency. The ability to deploy credit quickly and accurately becomes a competitive advantage when funding costs are no longer at historical lows.

Lenders should consider the following actions to mitigate the impact of rising benchmarks:

Review the mix of MCLR-linked versus EBLR-linked assets to manage interest rate sensitivity.

Enhance credit assessment processes to ensure risk-adjusted returns justify the higher cost of funds.

Focus on retail deposit mobilisation to reduce reliance on volatile wholesale funding markets.

06

What this means for execution

The rise in MCLR demands higher precision in field operations and lead management. When the cost of funds increases, the margin for error in credit processing and collections narrows significantly. Lenders need to ensure that their field teams are focused on high-quality leads that can support sustainable yields.

Efficiency in the loan origination journey is no longer just about customer experience; it is a financial necessity to offset rising interest costs. Platforms like Toolyt enable banks and NBFCs to streamline their field force productivity and loan origination workflows, ensuring that higher funding costs do not erode profitability through operational inefficiencies.