Cheap home loans: Is RBI about to start asset price bubble?

It seems policy rates are only meant to fool the markets that the RBI is following a tight money policy, when, in reality, it wants to ease up on the sly.
  • Language
  • App
  • Subscriptions
  • Specials
  • Sign-In
  • Register
GeStepAhead GrowMyMoney
moneycontrol.com

Home » News » Economy

Sep 19, 2013, 12.25 PM | Source: Firstpost.com

Cheap home loans: Is RBI about to start asset price bubble?

It seems policy rates are only meant to fool the markets that the RBI is following a tight money policy, when, in reality, it wants to ease up on the sly.

Like this story, share it with millions of investors on M3

Cheap home loans: Is RBI about to start asset price bubble?

It seems policy rates are only meant to fool the markets that the RBI is following a tight money policy, when, in reality, it wants to ease up on the sly.

Post Your Comments

Share Cancel

R Jagannathan , Editor-in-chief, digital and publishing, Network18 Group
R Jagannathan
Firstpost.com

In his book Fault Lines, Reserve Bank of India Governor Raghuram Rajan wrote about how politicians in the US tried to help middle-class Americans compensate for the lack of real wage growth by providing cheaper home loans. This was one of the reasons for the sub-prime crisis and we know how that ended.

Is Rajan now about to commit the same mistake he warned the US against in India?

Seems so. An Economic Times report today (18 September) says that the RBI and the finance ministry are "evaluating" a ‘funding for lending’ scheme that will result in cheaper loans for sectors such as housing and automobiles. To achieve this, banks will be allowed to borrow from the RBI at rates 1-2 percent lower than the market under a special scheme." An official is quoted as saying: "The big advantage of such a scheme will be to bring down borrowing rates for housing and auto without cutting policy rates."

Two points emerge from this story.

First, it seems policy rates are only meant to fool the markets that the RBI is following a tight money policy, when, in reality, it wants to ease up on the sly.

Second, it seems that cheap interest rates-even if they distort the credit markets-are the way to help the real estate and auto sectors grow again.

If Rajan is even thinking of this scheme, he is not the man who gave us a rousing free-market speech on 4 September. And he will be ignoring the exact warning he gave America on lower rates being used as a placebo to combat the more fundamental issue of unaffordability. Worse, he will be bailing out builders and realty sharks rather than the man who is struggling to buy a house in pricey urban areas.

The antidote to costly and distorted property values is lower prices, not cheaper loans. A 10 percent cut in property prices will do more to push sales than a 1-2 percent cut in interest rates. Right now, builders and realtors are operating in a buyers’ market because they know purchasing power is low with households in an inflationary situation; by making loans cheaper, the RBI will essentially be strengthening the builder to hold on to prices, making a correction difficult. Whose side is the RBI on?

It was with the idea or reducing risks in the realty sector that Rajan's predecessor D Subbarao put a crimp on the 20:80 scheme , under which buyers had to pay 20 percent of an under-construction property upfront, leaving the builder to pay EMIs till the property was ready. But what looked like a benefit conferred on buyers turned out to be a cheap way of financing builders at the cost of banks and borrowers. For the price of EMIs, borrowers faced all the risks of delays and cost escalations.

By making bank loans cheaper only for housing, Rajan will be creating another mini bubble when the need is for puncturing the realty bubble some more.

Not only that, making auto and home loans cheaper than other loans will distort the market for credit and lead to a moral hazard. Soon after the Lehman crisis, the State Bank of India and other public sector banks introduced so-called “teaser” loans. While the loans revived home buying during the bust, banks were left with large bad loans later. Those teaser loans played a big role in a hardening of property rates when prices were already unaffordable.

Banks are anyway reeling under the burden of bad loans. Do they need more, even if the RBI is willing to offer an interest rate subvention for home and auto loans?

At a time when inflation is high, or even rising, does the RBI want to fuel an asset price bubble again in property?

The writer is editor-in-chief, digital and publishing, Network18 Group

Buy, Hold, Sell ? Hear it first on M3
Cheap home loans: Is RBI about to start asset price bubble?

See all

Get started using your favorite social network

or

Login using moneycontrol ID

Username
Password

Need help logging in? Reset password.

Don´t have an account? Sign Up

Get started using your favorite social network

or

Simply sign up using this short form

* mandatory

UserName*

Username should be atleast 4 character

Password*

Password should be 8 or more characters,
atleast 1 number, 1 symbol & 1 upper case letter

Alert

Your Password should contain
  • 8 or more characters
  • At least 1 number
  • At least 1 symbol
  • At least 1 upper case letter
Confirm Password*
Email
Already have an account? Login