The increase in benchmark lending rates, a development that does not have much to cheer about in the New Year, was due to a sharp increase in the cost of funds. While the hike in lending rate will make auto, home and commercial loans expensive, the increase in deposit rate will ensure better returns for depositors.

India’s largest lender — SBI — raised its base rate by 40 basis points (bps) to eight percent from Saturday from 7.6 percent earlier.

Fixed deposits with the SBI would fetch high interest. The bank would give the highest return of nine percent for deposits of 555 days and 1,000 days, up from 8.5 per cent. The highest increase of one percent was in fixed deposits with maturity of 7-14 days.

The short-term fixed deposits would fetch an interest rate of four percent from the existing three per cent. ICICI Bank, the country’s second-largest lender, has revised its base rate by 50bps to 8.25 percent effective from Monday. Private lenders Kotak Mahindra Bank and Dhanlaxmi Bank also increased their base rates by 25bps and 75bps respectively.

The base rates of these two banks were 8.25 percent from Saturday.

While HDFC Bank had increased its base rate by 25bps to 7.75 percent, Corporation Bank raised its base rate by 65bps and deposit rates across maturities by between 10bps and 125bps.

Other banks are also likely to follow the suit as lending is raised mainly due to a sharp increase in banks’ cost of funds.

While most banks raised retail deposit rates by 50-150bps in December, short-term rates have also moved up. The interest rate on three-month certificates of deposit has gone up by 250bps since the beginning of October.

The base rate, the lowest rate below which banks cannot offer loans, was introduced as a replacement for BPLR from July 1, 2010, in an attempt to bring in more transparency.

Banks review their base rate every quarter. In the third quarter of this fiscal banks had done the first upward revision of their base rate. Most government-owned banks had revised their base rate in December by around 50bps each.

In a separate development, India’s central bank — the Reserve Bank of India — is in the process of formulating guidelines to plug a regulatory gap that permits surrogate raising of deposits by non-banking financial companies (NBFCs).

Currently, NBFCs “are exempt from the provisions of Section 67 of the Companies Act, 1956, in terms of which the issuance of shares or debentures to more than 49 investors needs to be through public issuance,” said RBI in its second Financial Stability Report.

“This means that NBFCs, particularly those not regulated by the Reserve Bank, could issue debt or quasi-debt instruments to a large number of retail or institutional investors on a private placement basis,” the report said, adding that it would be tantamount to raising public deposits outside the extant regulatory framework.

“Specific concerns in this regard have arisen in the past in the context of private placement of Convertible Preference Shares (CPS) by few NBFCs,” the RBI added.

India’s apex bank observed that internationally, the tightening of the regulatory regime for the banking sector has raised the possibility of increased regulatory arbitrage vis-a-vis the non-banking financial sectors.