Impact of Interest Rate Changes

On the Profitability of
Four Major Public sector Banks in India
Submitted to
Dr. Mashkur Zafar

ABSTRACT
The primary goal of this research is to break down the effect of loan costs changes
on the gainfulness of business banks being worked in India by analyzing the budget
reports of four noteworthy banks amid 2014 to 2019. Like the productivity of
banking part is viewed as most critical for financial development, fiscal strategy
usage and full-scale monetary dependability. From the previous couple of years,
premium spread of banking part of India is rising. Therefore, varieties in the loan
cost discourage the funds and speculation and then again it expands the
productivity of banks’ loaning. In this paper loan fee or the base rate is a free factor
and bank profitability is a needy variable. To analyze the effect of loan cost changes
on the benefit of business banks in India.
Pearson correlation method is used in this study accordingly it is discovered that
there is solid and positive relationship between loan fee and business banks’
productivity. It implies on the off chance that the estimation of loan fee is
expands/diminishes then as result estimation of banks’ benefit will likewise
builds/diminishes.
 RESEARCH METHODOLOGY
CORRELATION BETWEEN BASE RATES AND PROFITABILITY OF
FOUR PUBLIC SECTOR BANKS

PNB -12,282.82 1,324.80 -3,974.40 3,061.58 3,342.58

SBI -6,547.45 10,484.10 9,950.65 13,101.57 10,891.17
Allahabad Bank -4,674.37 -313.52 -743.31 620.9 1,172.02
Syndicate Bank -3,222.84 358.95 -1,643.49 1,522.93 1,711.46
Average Profit -6,681.87 2,963.58 897.36 4,576.75 4,279.31

CALCULATION

Base Change In Average % Change In

Year Rate Interest %(X) Profits profits(Y) XY X2 Y2
2014 10.12 0 -6,681.87 0 - - -
2015 10.12 0 2,963.58 325.465969 0 0 105928.097
2016 9.5 -6.526315789 897.36 -230.2547744 1502.71537 42.59279778 53017.26114
-
2017 9.45 -0.529100529 4,576.75 80.39299764 42.53597759 0.27994737 6463.03407
2018 9.05 -4.419889503 4,279.31 -6.950598899 30.72087911 19.53542322 48.31082506
-11.47530582 168.6535933 1490.900271 62.40816837 165456.703
 % Change In profits(Y)
400

300

R² = 0.612
200

100

0
-7 -6 -5 -4 -3 -2 -1 0

-100

-200

-300
Introduction
As per the Reserve Bank of India (RBI), India’s banking sector is sufficiently capitalized The money related
and monetary conditions in the nation are far better than some other nation on the planet. Credit, market
and liquidity chance examinations recommend that Indian banks are commonly strong and have withstood
the worldwide downturn well.

Indian financial industry has as of late seen the takeoff of inventive financial models like installments and
little account banks. RBI's new measures may go far in helping the rebuilding of the residential financial
industry.

The digital payments system in India has developed the most among 25 nations with India's Immediate
Payment Service (IMPS) being the main framework at level 5 in the Faster Payments Innovation Index
(FPII).*

Market Size

The Indian industry consists of twenty-seven public sector banks, 21 private sector banks, 49 foreign
banks, 56 regional rural banks, 1,562 urban cooperative banks and 94,384 rural cooperative banks.

In FY07-18, all out loaning expanded at a CAGR of 10.94 percent and all out stores expanded at a CAGR
of 11.66 percent. India's retail credit showcase is the fourth biggest in the rising nations. It expanded to US$
281 Billion on December 2017 from US$181 billion on December 2014.

Government Initiatives

As of Sep 2018, the government of India has created the Pradhan Mantri January Dhan Yojana (PMJDY)
theme associate degree open terminated theme and has conjointly extra additional incentives.

The Government of India is wanting to infuse Rs. 42,000 crore (US$ 5.99 billion) in the public sector
banks by March 2019 and will imbue the following tranche of recapitalization by mid -December 2018.

Problem statement:
To find out the impact of interest rate changes (base rate) on the profitability of four public sector banks
in India.

‘
Research Questions:
What is the impact of interest rate changes on the profitability of four public sector banks in India?

This question can be bifurcated into two parts

What impact will be on the profitability of public sector banks if interest rate increases?
What impact will be on the profitability of public sector banks if interest rate ?

Research Scope and Limitations

The scope of this research study includes the factors that have an impact on the profitability of public sector
banks in India. This study covers period of 2014 – 2018. The sample size of this study is 4 major public
sector banks in India. To evaluate the impact of interest rate changes on the profitability of public sector
banks operating in India, we took an average of annual profits of the four major public sector banks. But
this study does not cover the entire banking sector of India. This study does not cover the whole time period
from the beginning of public sector banks in India to present.

Literature Review
To check the effect of changes in interest rate on public sector banks profitability in India. This section
describes the profitability of public sector banks and interest rate with the review of previous literature on
this topic. Interest rate is defined as a certain amount of cash compensated by someone on the utilization
of funds for a specific time period. When a debtor compensates to creditor with the amount of cash for the
utilization of creditors funds for a specific time period, it is called interest rate. Creditors charge the interest
rate as percentage of the sum of funds lend. Similarly, banks pay interest to the depositor for the utilization
of money. The profitability of bank is described as income by interest or non-interest and after-tax profits
which are computed as an amount of income (both interest & non-interest) after the subtraction of provisions
and operating costs. Interest rate plays an important function as it can significantly influence purchasing
power of people. Therefore, as depositor it is essential to focus on the trends in interest rate because the
common trends in interest rate can have a major influence on savings of people. The major variation in the
trends makes it essential to examine the existing investment opportunities and potential opportunities. The
changes in interest rate have a significant impact on banks. The major proportion of banks revenue comes
from the difference in the interest rate that it charges from and pays to customers.

Interest Rate
On the usage of funds, a certain amount paid or received is known as interest rate. Debtor pays interest
when he borrows money and creditor receive interest when he lends money. The amount of interest that a
borrower/debtor pays is a percentage of the total amount he borrowed and in the same way the amount of
interest that a lender/creditor receives is a percentage of the amount of money he lends. Banks, encourage
the public sector to deposit their money by offering interest rates which motivates the public sector to make
deposits by opening their different accounts with the banks and banks use their funds for giving loan to
other people. Practically, when bank provides loan to a customer it charges higher rate but pays lower rates
to the depositor. With this difference of interest rates bank makes profit in return of giving the services. To
earn more profit bank charges higher interest rate as much as it is possible and on the other hand pays
lower rate as much as possible. However, to attract the same borrower and depositor banks are competing
to each other which maintain the interest rates in comparable range.

In addition to this, the interest rate also summarizes the entire way of business debt summary, including
the receipt of debt, excellence of the debt, expectations of visions participation proportions and fixed floating
mixture of the debt. Interest rates are applied in various forms for example, there are different interest rates
for savings account and for taking loan. Central bank that is Reserve Bank of India plays many important
roles in the economy but the major task of it is to regulate the interest rates which affect the financial system.

Increasing Effect of interest rate

Reserve Bank of India increases interest rate when the inflation is predicted to rise. When the interest rate
increases then the businesses and the people have to pay more for borrowing. It means the cost of taking
a loan rises which in return decreases their profitability and due to decrease in profitability the market prices
of shares also decline. The main source of income for the banks is the interest received. Interest rate not
only charged on loans, however it is also charged on unpaid bills, mortgages and credit cards and it is only
applicable on the unpaid portion of bills or loans. When a bank has a doubt that the debt will not be repaid
it usually charges higher interest rate. Loans like credit cards are very expensive to handle, so banks usually
charge higher interest rates to them. Moreover, bank also charges high interest rate to risky people.

The study of Samuelson Paul A, (1945) showed that when interest rate increases it affects borrowers, but
it doesn’t affect the banks performance. The borrower will bear the impact of high interest rate while the
performance of bank would not be affected by high interest rates. It is because when interest rates go
upward then the bank charges more to borrower than the return it pays to depositors. Therefore, both the
borrower and depositor will tolerate the high cost.

Decreasing Effect of Interest Rate

The decline in the interest rate is good for economic atmosphere because customers can easily pay for
taking loan as they don’t have to pay higher interest rate for taking the loans. Interest rate is used as a
device to regulate the economic development. If Reserve Bank of India decreases interest rate, the banks
are encouraged to borrow money from RBI as it is beneficial for banks because of low rate of interest. This
in turn increases the borrowing capacity of the public sector as banks will lend money to public sector and
individuals at less rates and as result, they tend to make investments and spend in different forms

Lower interest rate also gives opportunity to businesses to take capital investment loan by making huge
investment in rising sectors and making significant profit, it also enhances the firm’s confidence. Lower
interest rate reduces the risk of other party to failure to pay. When interest rates are lower people have
more disposable income to pay off their loans and make savings decision.

Methodology
For the cause of research, several techniques and strategies are used. Researchers described the methods
and tactics used in records collection and discussed the tools which might be used to analyze the amassed
statistics. For the reason of studies, two sorts of techniques are widely used: quantitative method and
qualitative technique. The researchers used quantitative research methods to perform this study. Pearson
Correlation method is used to discover the relationship between interest charge and profitability.
Researchers used quantitative method because this research is about analyzing the impact of interest
charge changes on the profitability of four major public sector banks in India. Besides this, researchers
used annual reports of PNB, SBI, Allahabad Bank, Syndicate Bank.

Data collection sources : Researchers used secondary resources of information to facilitate the useful
records for this research. Researchers hired the secondary statistics resources to get desired goals.
Secondary information manner the records that has been amassed by scholars and documented in
articles, books and other courses. Secondary data is very useful for studies : time saving and rapid
accessibility.

Secondary data collection sources

Researchers collected the secondary data from following official websites of public sector banks:

 www.pnbindia.in
 www.sbi.co.in
 www.allahabadbank.in
 www.syndicatebank.in

Validity and reliability of Data

The data employed in this research study is collected from authentic sources which included official
websites of PNB, SBI, Allahabad Bank, Syndicate Bank. These banks have copyrights and are fully
responsible about the validity and reliability of information. Therefore, the researchers rely on this data
with assurance of validity and reliability in terms of collection, compilation and measurements.

Pearson Correlation method

A correlation is a number within the range -1 and + 1 that measures the degree of association between
two variables name them X and Y. The affiliation between these two variables could be positive or
negative. If the correlation is positive between two variables; it means that there is a direct relationship
between them and if the correlation is negative between two variables (X and Y), then it means that there
is an inverse relationship between the two variables. Researchers employed Pearson correlation method
to measure degree of association among interest charge and public sector banks profitability in India.

Conclusion
After detailed analysis of the four public sector banks in India, we can conclude that the changes in interest
rate have a great impact on the profitability of four public sector banks in India. Interest rate affects the
bank’s income received from interest. The findings of this research work are proved through Pearson
correlation technique. It implies bank’s income by interest is significantly related to interest rates that
show the bank’s profitability is dependent on the monetary policy tool known as interest rate. When the
interest rate is high, the rise in lending rate is higher than the deposit rates which as a result increases the
bank spread. on the other hand, when interest rates are low then rise in deposit rate is higher than the
lending rates. As compared to deposit rates, lending rates are adjusted more rapidly when interest rates
increase. When interest rate decreases then deposit rates are adjusted more rapidly as compare to
lending rates.
Recommendation
The public sector banks in India are charging more to borrowers but paying less to depositor. The
banks shall concentrate on their profitability by charging lower interest rate and providing
handsome return to depositors.
Money is not necessary to decrease the risk of the bank. It can be minimized by increasing their
non-income concentration.
The State Bank of India shall intervene to regulate the interest spread.

References
 https://www.rbi.org.in/
 www.pnbindia.in
 www.sbi.co.in
 www.allahabadbank.in
 www.syndicatebank.in
 https://www.moneycontrol.com/
 Thomas J. Archdeacon, Correlation and Regression Analysis, A historian’s guide
 International Financial Management by Anurag Agnihotri (Denoted as AA)
 Pearson, Marketing Research, Naresh K. Malhotra
 https://explorable.com/correlational-study