How Does the RBI Rate Cut Impact FD Interest Rates?

Fixed Deposit are those schemes under which the investor invests a certain amount of money for a fixed tenure at a rate which is pre-decided by the bank. The bank gives interest on a monthly or a quarterly basis which can be credited directly to the account of the user or reinvested in the same scheme as directed by the investor. There are some plans that allow partial withdrawal or withdrawal before maturity. There are certain tax saver fixed deposit schemes with a lock-in period of 5 years that offer high interest rates.

The Reserve Bank of India is the organisation that decides the rates and manages the currency of India. Banks borrow money from RBI at a specific rate known as the repo rate. When RBI cuts the repo rate, banks can borrow at lower interest rates. Banks earn profits from the interest amount they charge on loans. They also have to pay interests on deposits made in the form of FDs, RDs, savings accounts, etc. The net income of the bank is the difference between the interest they earn and the interest they pay. Thus, whenever RBI cuts the repo rate, banks make a rate cut on deposits to maintain their profit margin.

Banks do not take the risk of borrowing at a higher rate from their customers when RBI reduces its lending rate. Hence, interest rates on savings bank account as well as fixed deposits are reduced by banks. However, investors do not get exact benefits. The repo rate as of now is 6.25% whereas the rate at the start of 2015 was 8%. SBI interest rate on FDs was 8.5% then whereas the bank has reduced the interest rate of the same 3 to 5 years plan to 6.25% as on 1st July 2017.

The biggest impact of RBI rate cut is on short term fixed deposits. Since repo rate cuts signify reducing inflation, long term investors also face the reduction in FD rates but the effect is not as severe as it is for short term investors. FD interest rates for most banks are similar. However, small banks and NBFCs provide FD options at relatively higher interest rates. Rate cuts mostly have a negative impact on FD interest rates as banks reduce them significantly and returns on such investments take a dip.

What should investors do?

Whenever RBI cuts the repo rate, banks take some time to roll out new interest rates for different fixed deposits. It is during this time that new investors can cash-in to make the most of the opportunity. Below mentioned are the steps that an investor can follow to earn higher interest on FDs:

  1. As banks take some time to roll out new rates, investors should invest in FDs before reduced rates come into effect. In order to ensure liquidity, if you are planning to invest Rs 10 lakhs in FDs, book five FDs of RS 2 lakh each. It will enable you to break one or some of your FDs in case of emergency and your remaining FDs would keep on earning for you at the same rate.
  2. Look for small banks and NBFCs (Non-Banking Financial Companies) that offer higher FD interest rates. Many housing companies and manufacturing companies offer FD interest rates as high as 8.5% in the tenure range of 2 to 3 years.
  3. Use FD calculators to check the investment amount and returns of various banks before investing. FD calculators can help you to select a specific plan that would provide maximum returns on maturity.

Even though fixed deposits are some of the safest investment options available, their rates may also be affected when RBI cuts the repo rate. Investors should be watchful whenever RBI makes such announcements. Using FD calculators will help them to find out the exact amount they would get after maturity. Investors should also not forget to compare interest rates of FD schemes offered by various banks and NBFCs before they invest their money.

Leave A Reply

Your email address will not be published.