India's Economy to Improve, Cost of Funds May Rise: Report

New Delhi: India's economy is set to witness improvement in the overall conditions, owing to growth of external financial linkages, ample funds and pickup in the domestic economic activity, according to a survey.

However, 31 leading banks and financial institutions participating in the survey for the April-June quarter also anticipate the cost of funds to rise due to tightening of liquidity in the near future, thereby dampening corporate lending which is already grappling with issues like high NPAs.

The survey was carried out to map the expectations of banks and financial institutions. The government recently gave wide-ranging legislative powers to the Reserve Bank to issue directions to lenders to initiate insolvency proceedings for recovering bad loans, as non-performing assets (NPAs) of public sector banks zoomed to unacceptably high levels of over Rs 6 lakh crore.

High NPAs limit the capacity of the banking sector to lend to corporates. However, the CII-IBA Financial Conditions Index for the first quarter of the current financial year (April-March) stood at 56.9 (as against 48 in the January-March quarter), signalling that majority of the respondents expect improvement in the overall economic conditions of the country.

"The improvement of Financial Conditions Index projects overall optimism in the Indian financial sector on the back of increase in consumption, infrastructure spending amplified by slew of landmark reforms as evidenced by roll out of GST and formulation of the stressed loans resolution package through an ordinance by amending the Banking Regulation Act," CII Director General Chandrajit Banerjee said.

In the current quarter, majority of the respondents expect improvement in mobilisation of funds from money market, corporate bond market, equity market and RBI's management of the liquidity through liquidity adjustment facility.

However, the Cost of Funds Index was recorded at 40.3 in the quarter under review, a decrease of 25.7 points quarter- on-quarter. The decline suggests that the respondents are not upbeat about the yields on the 10 year long term interest rate and expect the market interest rates to rise due to tightening of liquidity.

Further, there is a low demand of credit from corporate on account of under-utilisation of existing capacities. "Since banks have passed on the benefits of lower cost of funds in the last quarter of the previous year, further action in this quarter is not expected," Indian Banks Association Chairman Rajeev Rishi said.

The Marginal Cost of Funds based Lending rate (MCLR) rates have witnessed minimal reduction across banks even though there is surplus liquidity in the market and rate cuts on deposits, the survey pointed out.

The external financial linkages index was recorded at 59.3, second highest value among the sub-indices, recording significant improvement from the previous quarter (35.3), reflecting that the Indian financial sector remained unperturbed from the effects of the US Fed interest rate.

The funding liquidity index was recorded at 72.2, third highest value among the sub-indices, recording improvement from the previous quarter (59.3). The number is significantly higher than the 50 mark, signalling a strong expectation of improvement in the funding liquidity in the Indian financial system.