MCLR Full Form | What is MCLR | Purpose of MCLR
Marginal Cost of Funds Based Lending Rates (MCLR) is a methodology used by the Reserve Bank of India to determine the loan interest rate. It has been implemented since demonetization in India, due to which it has become a bit easier to take a loan. The MCLR was introduced by the RBI in April 2016 to determine the interest rate on loans taken from banks. Let’s know what MCLR is:
What is MCLR?
From April 2016, banks have started using MCLR in place of interest charged for loans. When you take a loan from a bank, the minimum rate of interest charged by the bank is called the base rate. The bank cannot give loans to anyone below the base rate. In place of this base rate, banks are now using MCLR. It is calculated based on the marginal cost of funds, periodic premium, operating expenses, and the cost of maintaining the cash reserves ratio. Later loans are given based on this calculation. It is cheaper than the base rate. Because of this, loans like home loans have also become very cheap since their introduction.
What is the purpose of MCLR?
MCLR has been implemented to improve the transmission of policy rates of lending rates of many banks. It also aims to ensure the availability of bank loans at such rates that are suitable for the lender as well as the borrowers. The MCLR was also implemented to make the process of determining the interest rates of all banks transparent. The MCLR also aims to improve the competitive prices of banks and lenders.
MCLR Full Form :
The full form of MCLR is the Marginal Cost of Funds based Lending Rate.
To understand MCLR properly we must first understand the meaning of the words involved.
Marginal Cost of Funds– (to the bank) the marginal cost incurred to keep the funds with you. The cost to the bank itself, on that money, is lying.
based Lending Rate — the cost of lending (interest) based on that (cost). The cost of issuing or lending money (in the form of interest) is what the bank needs.
Explanation: Actually, the money that has bank issues is a bank loan. The bank has to incur a variety of costs to raise funds with it, keep it safe, issue the money as a loan, and then recover it.
- The bank also pays interest for the funds received from the Reserve Bank (RBI)
- People also have to pay interest on deposits (Savings, FDs, RD, etc.).
- To conduct deposit and loan-related processes? There are also administrative and other expenses.
- Apart from this, there is a risk of non-refund of the amount issued as a loan.
- By adding all these costs, the bank charges a nominal cost of that money for itself. Then, based on this Marginal Cost of Funds, the Lending Rate of your loan is decided.
- He expresses his MCLR as a rate or percentage of the cost he has to bear for holding, issuing, charging, etc. every 100 rupees.
- Whenever he will issue a bank loan to anyone, he will not take less than this cost. Generally, the interest rate of the loan is fixed by increasing this cost a little bit. This increase is called Spread. Only by adding Spread to the MCLR rate, the interest rate of a loan is fixed.
- The higher the risk of a loan, the higher the MCLR rate, and the higher the interest rate will be determined. This risk is determined by combining the loan duration, loan amount, credit of the borrower, etc. Therefore, despite the same MCLR rate of a bank, the loan rates are different for different types of loans.
Types of MCLR by duration
Each bank announces its MCLR rate for different periods, every month. This rate varies by period, such as—
- Overnight MCLR | Daily MCLR
- One month MCLR | Monthly MCLR
- Three-month MCLR quarterly MCLR
- Six-month MCLR, half-yearly MCLR
- One year MCLR. Annual MCLR
- Two-year MCLR Biennial MCLR
- MCLR rate increases with increasing duration
Difference Between Base Rate and MCLR
- The Base Rate determines the Reserve Bank of India. This means the base rate.
- The Reserve Bank, as the base rate, fixes a minimum rate beyond which a commercial bank cannot issue a loan.
- The base rate applies to all banks. That is, the base rate is the same for every bank.
- The MCLR rate is determined by the co-commercial bank itself.
- This is also the minimum rate by which the bank does not issue any loan at less.
- Each bank sets and follows its own MCLR. That is why we see that the MCLR rate of every bank is different.
Relationship between Base Rate and MCLR Rate
- The similarity between the base rate and the MCLR rate is that both are determined based on the cost of funds and the returns that result from it.
- Both are the rate at which banks cannot issue loans at a lower rate.
- The difference between the base rate and the MCLR rate is that different institutions have the responsibility to decide both.
- The base rate is fixed by the Reserve Bank and has to be accepted by each bank. Whereas, every bank decides the MCLR rate for itself and only that bank is committed to obeying it.
- However, it is not that the base rate utility is over. First, the Reserve Bank fixes the base rate, then the banks change the base rate accordingly and declare the MCLR rate.
- Ultimately, the Reserve Bank plans to link the MCLR with the repo rate, so that the banks decide the loan interest rates according to their immediate and actual cost.