Why Are Indian Banks Unable To Pass On The Interest Rate Cuts? An Enquiry

It has been observed that there is asymmetry in the approach of Indian banks when it comes to reacting to interest rate signals given by the Central Bank. While they are quick to react to interest rate increases, they drag their feet when it comes to reacting to interest rate cuts. More often banks pass only a small part of the interest rate cuts. This paper attempts to understand the reasons behind such an asymmetric behaviour. The paper identifies two reasons in the case of Indian commercial banks which are leading to such behaviour. The first reason identified is the oligarchic structure of the Indian banking system where there is a dominance of the public sector banks. The second reason identified in this paper is the pro cyclical behaviour of the Indian public sector banks which has given them an asset-liability profile where their flexibility to react to interest rate signals got severely compromised.