The ongoing controversy over the so-called “teaser” loans in the home loan segment has many dimensions. The term ‘teaser loan’ is derived from the practice, adopted by some leading banks, of charging attractive, customer friendly, fixed interest rates for the first three years and thereafter setting the interest rates on more conventional floating rate basis. The pioneer and market leader in this segment, State Bank of India charges eight per cent for the first year and nine per cent for the next two years. Home loans are typically of a much longer duration and borrowers, tempted by the attractive interest rates during the initial years, are less likely to take into account either the interest rate risks or their repaying capacities during the rest of the loan period. In extreme situations some of the borrowers may well slip into a debt trap and that would not be good for the lending banks either. Recently the RBI, concerned over the excess demand being generated in the residential real estate market, among other things, sought to discourage teaser loans by asking banks to increase the provisioning for all such loans to two per cent from the existing 0.4 per cent. There have been other points of criticism as well. Some have even compared these loans, inappropriately though, to the sub-prime loans in the United States, which triggered the global financial crisis.
It is possible that the controversy over home loan pricing has much to do with the intense competition that has become a characteristic of the substantially deregulated financial sector. For banks, pricing of loans, deposits, and other services is a crucial component of their marketing strategies. The question is whether tactical pricing practices such as charging teaser interest rates are predatory or injurious to the health of the institution and, in an extended sense, to the entire financial sector. Some of the strongest criticism against the SBI home loan scheme has come from the HDFC, which, along with other banks and institutions, was forced to follow suit. While the SBI and other public sector banks have access to cheap resources and can afford to charge the lower lending rates for the initial years, others are not placed well enough to compete with them in this game. The RBI, which recently introduced the base rate mechanism to make bank lending more transparent, probably needs to intervene only if competition in the home loan segment threatens to get out of hand. Even then, it ought to concern itself more with issues such as asset-liability mismatches that are very relevant in longer-term home loans than with aggressive pricing of a few products.
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