Economics • Banking & FinanceMedium
What does the term 'Base Rate' signify in the lending operations of commercial banks in India?
A. The minimum interest rate below which commercial banks are not permitted to lend to their general customers, established to bring transparency to lending rates.✓ Correct Answer
B. The maximum interest rate charged on agricultural loans under government sponsored welfare schemes.
C. The official policy interest rate announced by the Governor of the Reserve Bank of India during bi-monthly monetary reviews.
D. The interbank borrowing rate charged for overnight transactions in the call money market.
💡 Solution & Explanation
The base rate system was introduced by the Reserve Bank of India to replace the benchmark prime lending rate framework, establishing a floor rate below which banks cannot lend, except in specific cases permitted by the central bank. It is calculated based on factors such as the cost of funds, negative carry on cash reserve ratio, operating expenses, and a reasonable margin on equity. Subsequent reforms led banks to adopt the Marginal Cost of Funds based Lending Rate system to ensure faster transmission of policy rate changes to borrowers. Transparency in loan pricing remains a key regulatory priority.
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