Top executives from India's state-owned banks have sounded an alarm at the Reserve Bank of India (RBI), highlighting a critical imbalance that is squeezing their profitability. The core issue is the stark difference in how quickly interest rate cuts are passed on to borrowers versus savers.
The Core of the Asymmetry: Instant Loans vs. Sticky Deposits
In discussions held with RBI officials around ten days before the 5 December monetary policy announcement, multiple public sector bank chiefs raised a pressing concern. They pointed out that the widespread adoption of external benchmark-linked loans, primarily tied to the repo rate, means lending rates adjust immediately whenever the RBI changes the policy rate.
However, on the other side of the balance sheet, deposit rates are largely fixed. Only fresh deposits get repriced at the new, lower rates, and this process is much slower and more costly for the banks. This fundamental mismatch is sharply compressing their net interest margins (NIM) – a key measure of profitability.
"We have passed on 100 bps of cuts on the asset side but have been able to reduce deposit rates by only 30 bps, creating a 70-bps spread compression," revealed a senior official from a state-owned bank, one of three sources familiar with the private talks. They emphasized that this gap cannot be managed through asset-liability management (ALM) techniques alone.
The Data Behind the Squeeze
The numbers tell a clear story. In 2025, the Monetary Policy Committee (MPC) has reduced the policy repo rate by 100 basis points to 5.5%. Data from the RBI shows that rates on existing loans have fallen by 63 basis points. In contrast, rates on existing deposits have declined by just 31 basis points, sliding to 6.78% in October from levels before the first cut in February.
This disparity exists because about 63% of all floating-rate loans are now linked to an external benchmark, ensuring near-instant transmission. Private banks are even more exposed, with 88% of their floating loans on external benchmarks. Public sector banks, while having a higher share of loans linked to the older MCLR benchmark, are still feeling significant pressure.
A senior treasury official explained the mathematical inevitability of the problem: "If ₹100 of deposits are on the books, barely ₹10 comes up for repricing in a given month, while ₹60 out of ₹100 in loans get repriced instantly. Full transmission on the liability side is mathematically impossible."
Compounding Challenges and Potential Solutions
Banks are grappling with this asymmetry amid intense competition for household savings. Financial products like mutual funds, insurance, and government small savings schemes are drawing money away from traditional bank fixed deposits. Notably, small savings schemes offer 8.00–8.50%, far above bank deposit rates, making them a sticky competitor.
Regulatory requirements like the Liquidity Coverage Ratio (LCR) also add to funding costs, as short-term deposits require banks to maintain high liquidity buffers.
Bankers and economists suggest several measures to rebalance transmission:
- Sustained RBI Liquidity Infusion: Economists like IDFC FIRST Bank's Gaura Sengupta argue that maintaining a substantial and consistent liquidity surplus in the banking system is crucial to aid deposit growth. Sengupta estimates RBI may need to infuse ₹2 trillion to keep core liquidity healthy.
- Reduction in Small Savings Rates: Bankers see this as the single biggest lever. A cut in government-set small savings rates would allow banks to attract deposits without offering unsustainably high rates.
- Introduction of Floating-Rate Deposits: Exploring products common in global markets, where deposit rates adjust with benchmarks, could mirror the rapid repricing seen on loans.
- Clear Policy Roadmap: Bankers have requested a three- to four-year "roadmap" for policy rates to help them plan deposit pricing more effectively, rather than reacting to unpredictable bi-monthly changes.
As the RBI navigates its monetary policy path, addressing this transmission lag on the deposit side has become a critical concern for the stability and profitability of the banking sector, especially for public sector banks.
