Lower borrowing cost in 2016? Banks, not RBI, will be driver

In 2015, the Reserve Bank of India (RBI) finally decided to loosen its ultra-hawkish monetary policy, cutting its key repo rate by 1.25 percent in a total of four hikes. Banks, however, have passed on only some part of this interest rate cut, claiming that their own borrowing costs (deposit rates, rate of market borrowings) haven't come down by the same extent.

In an interview with CNBC-TV18, JPMorgan's Sajjid Chinoy said that rates at the RBI level were unlikely to fall drastically in 2016 -- maybe another 25 basis points (0.25 percent) -- as food inflation could play truant.

As for when banks could cut further rates, SBI MD VG Kannan said he expects cost of funds to come down further for banks and added that the RBI's proposed directive for banks to price their books on marginal cost would also help somewhat.

The two were joined by Citi India MD and Strategist Aditya Narain who was doubling up as CNBC-TV18 Guest Editor for the day.Below is the transcript of Sajjid Chinoy and VG Kannan's interview with Latha Venkatesh, Anuj Singhal & Guest Editor Aditya Narain on CNBC-TV18.Latha: Does the cost of money get cheaper? How does 2016 look to you first in terms of policy rates and then in terms of effective borrowing for borrowers?Chinoy: Let us start with policy rates. My sense is that we are at the very end or very close to the end of any monetary easing cycle. The fact is the RBI is on this disinflation path, we have a 5 percent inflation target for January 2017 and right now, in our models, we do not see any visibility where inflation either significantly or sustainably dips below 5 percent and so we do not see any monetary space here. The key here is food inflation and that, there is a structural component to food inflation which is driving a mean reversion we expect in the December print, food inflation will be 6.5 percent. So, you could be in the strange situation where growth disappoints and core inflation at the margin, that momentum abates, but food inflation pretty sticky and takes away that space for any aggressive monetary easing. So, could you have a 25 basis point cut sometime later in the year? That is possible, but let us not expect 2016 to be a year like 2015 where you had the meaningful monetary easing cycle.Now, what happens to the transmission is more interesting because what you also have are global developments playing out to the extent that the Fed is raising rates, there would be pressure on yield curves around the world. And it also depends in large measure on fiscal policy. Do we stick to the medium-term fiscal path or not. So, the transmission from policy rates to wholesale rates is an open question which will depend both on global and domestic developments. Latha: I am not asking you for the next decision you will take on base rate. I am asking you as a sector leader. Will transmission be better in 2016? Some of the 125 basis point rate cut has been transmitted, probably half of it. Will there be more of it transmitted in 2016?Kannan: I think as regards the transmission, we have already transmitted about 75 basis points out of 125 basis points. Time and again, we have been telling you the transmission is not going to be directly proportional to the fall in the repo-rates. That has to be clearly understood because the quantum of funds being borrowed from the repo system is not going to be very high. However, having said this, and that is the general trend for the interest rates cycle to have come down. And many of the banks have actually repriced their books earlier. But the actual repricing will take place starting now. And hopefully, we expect that the prices, the cost of funds come down, in which case there will be more scope for us to reduce it.And in addition, the RBI has also come with Marginal Cost of Funds based Lending Rate (MCLR). We are working on this. I think the directly from the MCLR, the transmission may not be substantial. But going forward, as an when the rates dip, if at all, then that will be a very clear and quick transmission. And however, I do agree that the scenario which we saw about six months ago saying that there will be more possibilities of repo cut in this financial year. Currently, it appears to be that we might see at best, maybe two, but maybe actually only one cut of 25 basis point. And going forward, the food grain inflation continues to be pretty bad. Unless that is brought under control, we do expect much of a cut. But there are other areas which can actually bring down the inflation, the oil prices have come down, but oil prices has not been transmitted by the government into the system because they have actually taken it away by way of the increase in the taxes. In case that is also passed on, maybe that will have some effect on the market for reducing the inflation rates. Going forward, I see that if there is a fall in the cost of funds, we will certainly pass it on.Aditya: I have three areas that I would like to broach. One, there is this sense, a lot of press reports, that the RBI is looking at accelerated recognition and accelerated provisioning and just some sense that if that could cause any nearer-term dislocation as far as your own financial perspectives are concerned. The second is really in terms of trying to get a sense of where asset quality is moving at this point in time because there is a deterioration as far as numbers are concerned, but there is also a sense that over the last 6-12 months, things have actually tended to stabilise a little bit and whether the underlying asset movements have tended to in some senses sober out and look up a little bit if nothing else. And the third thing is, what would your sense be in so called lending risk appetite of banks, in banks like yours in particular, whether that has diminished because some of the asset issues that are there on your books and that seems to be an overhang on the system. Or whether that is just, if the opportunity comes, you would be more than ready to actually lend?Kannan: Let me take from the first question. There have been a lot of discussions from the reserve bank of India, regarding this accelerated provisions and the feeling is that if the asset has got stressed, we need to make provisions, we are working on this. Exact figures we are not sure. But having said this, almost all these assets, actually if you see, the physical assets are already there. The activity is going on, maybe at a slightly lower capacity, but does not mean that the asset as such physical assets or the factories or the facilities are not there. They are all very much there and therefore, very much ready for use. It is not that they are all closed, most of the activities are very much there.Yes, right now, because of lack of funds and rightly put it, in some cases highly leveraged, their ability to generate earnings before interest, taxes, depreciation and amortisation (EBITDA) to cover certain payments are a bit stressed. But once there is some sort of activity improving in the market, these are all assets which will certainly improve. Earlier in the day also, there are some talks about the steel sector which is one of the sectors which has been badly hit, mainly because of the prices having come down. Huge capacities having been created. And all these things, we do not see an immediate solution, but in the long run, these are all excellent assets which have been created and therefore, that is not much of a worry. Regarding the asset quality again, the same thing, the provisions which we may be making, may not necessarily have to remain there for long. And we may be in a position to reverse it in the medium-term, not necessarily in the short-term. And asset quality, the resolution for the power sector and the Discoms, etc has been found out and the Ujwal Discom Assurance Yojna (UDAY) package has come which of course would mean that there will be a slight dip in the interest income, but which will also be backed by government issued bonds. Therefore, to that extent, our risk is also slightly lowered. Aditya: Has risk appetite has diminished and if lending opportunities come, you are going to be more cautious?Kannan: No, I do not think so. In fact, you must have seen that State Bank of India has been never actually coming down on the disbursements or sanctions. We have always been quite aggressive in taking good quality assets. Off-late also, we are planning some very good quality complete projects, large companies with a AA and a AAA rating which are looking for refinance and we are looking at it.AS far as new projects are coming, very few and far have come. There have been some very small solar projects which have been coming, a number of them. And, that is one area where we are looking at. Otherwise, we do not see any major expansion in capital expenditure (Capex). But we will continue to finance in case we get projects.Latha: One of the big themes that is moving the markets is that public led investment will happen. Should we keep that hope for FY17?Chinoy: Absolutely, you should. I think if you just step back here and admit that a much of last year’s growth was fuelled by the fact that oil went from USD 110 to USD 40 and that is a one-time growth dividend that rose off, then the growth picture becomes a little more cautious because if you do not get that boost to urban consumption, we have come off two bad droughts, we are seeing the global economy basically stagnate. There are pockets of growth, but do not expect exports are going to pick up. So, from the demand perspective, if urban consumption may roll off, rural consumption is not firing. You have got balance sheet issues of private investment, exports are not picking up. Really the only driver of growth has to be public investment and here the government deserves enormous credit, because there was a lot of scepticism this time last year, whether they could deliver on public investment and in fact, they have. The public investment spend year-to-date so far has even exceeded ambitious budgeted level. So, the hope is that is going to very much be a theme for next year. The question is how does the fiscal math work because if you want to maintain or increase public investment, you also have a Pay Commission, you have to honour and you have got a 40 basis point fiscal consolidation that you have to undertake, how does the math work out? Quick point I will make is one way to make the math work where you can preserve fiscal credibility and maintain public investment is through asset sales. This is the year where the government should really jumpstart asset sales and this is where you can cause public investment to hopefully, at some point in the future, begin to crowd in private investment.