External Benchmark-based Lending Rate (EBR) refers to a lending rate that is linked to an external benchmark, which is determined by factors beyond the control of the lending institution.
In the context of banking and finance, this concept gained significance due to regulatory changes in various countries, including India. Key points related to External Benchmark Based Lending Rate:
Regulatory Context (India): In India, the Reserve Bank of India (RBI) introduced guidelines to link the interest rates on certain loans to external benchmarks, effective from October 1, 2019. This was done to improve the transmission of policy rates and ensure that changes in the policy rates were passed on to borrowers more effectively.
External Benchmarks: The external benchmarks can include market-determined interest rates, such as the Repo Rate (the rate at which the central bank lends to commercial banks), Government of India 3-Month Treasury Bill Yield, or any other benchmark published by Financial Benchmarks India Private Ltd. (FBIL).
Transmission Mechanism: When the external benchmark rate changes, the lending rates for loans linked to that benchmark also change. This is expected to make the transmission of changes in the policy rate more direct and faster.
Loans Linked to EBR: Home loans, auto loans, and personal loans are examples of retail loans that may be linked to the External Benchmark-based Lending Rate.
Periodic Review: The interest rates linked to external benchmarks are typically reset at regular intervals, providing borrowers and lenders with transparency and responsiveness to changes in market conditions.
Spread or Margin: In addition to the external benchmark rate, banks may charge a spread or margin over the benchmark to determine the final lending rate. The spread covers the bank's operating costs and risk premium.
Risk Management: Lenders may incorporate risk premium in the spread to account for credit risk, operational risk, and other factors.
EBLR replaced the previous benchmark rates, such as the Base Rate and Marginal Cost of Funds-based Lending Rate (MCLR), to address the issue of slower-than-expected rate transmission under the MCLR regime. The EBLR system has been found to be more effective in transmitting policy rate changes compared to the previous systems.
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