How does MCLR differ from Base Rate?

MCLR (Marginal Cost of Funds based Lending Rate) and Base Rate are two different benchmark rates used by banks in India to determine the lending rates for floating rate loans. Here are the key differences between MCLR and Base Rate:

1. Calculation Methodology: MCLR is calculated based on the bank's marginal cost of funds, which includes factors like the cost of borrowing, operating expenses, and the marginal cost of deposits. On the other hand, the Base Rate was determined by considering the average cost of funds for banks.

2. Frequency of Revision: MCLR rates are reviewed and revised by banks on a monthly basis, while the Base Rate was typically revised on a periodic basis, which could be once in a quarter or even longer intervals.

3. Internal Benchmark vs. CostBased Benchmark: MCLR is considered an internal benchmark rate, as it is determined by the bank's own cost of funds. Base Rate, on the other hand, was based on the average cost of funds and was more influenced by broader market conditions.

4. Marginal Cost vs. Average Cost: MCLR takes into account the marginal cost of funds, which means it reflects the incremental or additional cost of the bank's funds. Base Rate, on the other hand, considered the average cost of funds, which may not fully capture the changes in funding costs.

5. Transparency and Transmission: MCLR was introduced to enhance transparency and improve the transmission of policy rates set by the Reserve Bank of India (RBI) to the end borrowers. Base Rate was criticized for not being as transparent and responsive to changes in market conditions.

6. Applicability: MCLR is applicable to all new loans and existing floating rate loans sanctioned after April 1, 2016. Base Rate was applicable to loans sanctioned before April 1, 2016, but borrowers were given an option to switch to the MCLR system.

7. Linkage to External Benchmarks: In recent years, the RBI has introduced external benchmarking for certain types of loans, such as loans to small businesses and personal loans. These loans are linked to benchmark rates like the repo rate or the treasury bill rate, rather than MCLR or Base Rate.

Overall, MCLR was introduced to improve the transparency and efficiency of the lending rate setting process by linking it more closely to the bank's actual cost of funds. It aims to ensure a faster transmission of changes in policy rates to the borrowers and provide a more responsive lending rate framework.