New framework to standardise interest rate rules on the anvil, says RBI
The Reserve Bank of India announced plans for a new principle-based framework to standardise interest rate rules on advances (loans) across all its regulated entities — banks and non-banking financial companies (NBFCs).
The framework aims to harmonise operational aspects such as day-count conventions (how interest is calculated) and benchmark reset dates for loans linked to external benchmarks.
The RBI Governor stated the changes are intended to improve transparency for borrowers and strengthen consumer protection, and will rationalise existing, fragmented norms.
The proposed changes are not expected to alter EMI amounts for existing borrowers or bring NBFCs under the mandatory external benchmark lending regime.
Evolution of Bank Lending Rate Benchmarks in India
India's lending-rate regime has moved through four successive benchmarks as the RBI sought greater transparency and faster transmission of policy rate changes to borrowers: the Benchmark Prime Lending Rate (BPLR, introduced 2003), the Base Rate (2010), the Marginal Cost of Funds-based Lending Rate (MCLR, effective April 1, 2016), and the External Benchmark Lending Rate (EBLR, effective October 2019).
Key Details
- MCLR is an internal benchmark computed from marginal cost of funds, negative carry on CRR, operating costs, and a tenor premium — banks retained discretion over the spread and reset frequency, which blunted transmission.
- EBLR mandates that floating-rate retail and MSME loans be linked to an external benchmark (typically the RBI repo rate) plus a bank-determined spread, with mandatory periodic resets (at least once every three months) — introduced to improve monetary policy transmission speed.
- As of recent RBI data, roughly 61% of floating-rate bank loans are linked to EBLR, while about 36% remain on MCLR.
The new principle-based framework does not replace MCLR/EBLR but seeks to standardise the fine print around them (day-count conventions, reset-date practices) that currently vary bank-to-bank, closing transparency gaps that persist even after the shift to external benchmarking.
Principle-Based vs. Rule-Based Regulation
Financial regulators can frame rules either as detailed, prescriptive "rule-based" regulations (specifying exact procedures for every scenario) or as "principle-based" regulations (setting outcome-oriented standards — e.g., transparency, fairness — while giving regulated entities flexibility in implementation). The RBI's recent regulatory approach has shown a shift toward principle-based, rationalised instructions, consolidating years of circulars into master directions built around a few clear principles.
Key Details
- Principle-based regulation typically requires disclosure and process standards (e.g., uniform interest calculation conventions) rather than dictating a single permissible interest rate methodology.
- It aims to reduce regulatory arbitrage between different categories of regulated entities (banks vs NBFCs) while retaining product-design flexibility.
- Consumer protection under RBI's framework is anchored in instruments like the Fair Practices Code and the Reserve Bank – Integrated Ombudsman Scheme.
By explicitly not extending the EBLR mandate to NBFCs while still requiring harmonised, transparent interest-computation practices, the RBI is applying a principle (transparency and comparability) uniformly while preserving each entity category's distinct funding-cost structure.
- MCLR regime: effective since April 1, 2016.
- EBLR regime: effective since October 2019; EBLR = Repo Rate + Bank Spread.
- Around 61% of floating-rate bank loans linked to EBLR; about 36% still on MCLR (RBI data).
- Proposed framework will not extend the mandatory external benchmark regime to NBFCs.
- Proposed changes are not expected to change existing borrowers' EMI amounts.