The year of cheap money

What do the government of India, Reliance Industries and Sudhir Kumar have in common? All of them raised cheap money in 2002, albeit for different purposes: the government to help bridge the fiscal gap, Reliance to replace existing high-cost loans and Kumar to buy a flat in Mumbai.

Money was never so cheap.

Last December, the 10-year government paper was traded at around 7.9 per cent in the secondary market. Today, the yield dipped to 6.13 per cent before closing the day at 6.15 per cent, bringing down the yield by over 1.5 percentage points in a calendar year.

Reliance has raised Rs 500 crore (Rs 5 billion) in five-year money at 6.2 per cent, 5 basis points (1 basis point is one hundredth of a percentage point) below the Reserve Bank of India's benchmark bank rate.

Kumar raised a Rs 15 lakh (Rs 1.5 million) five-year housing loan at 8.75 per cent. Taking into account the tax benefit he will get on this loan (the Kelkar committee's recommendation on slashing tax benefits on housing loans is yet to be implemented and so Kumar will get a tax break on up to Rs 1.5 lakh of interest payments, besides Rs 20,000 of the principal amount), his interest outgo will veer around the RBI's bank rate in the initial years.

Although economists are of the opinion that the real interest rate (that is, the nominal rate minus the rate of inflation) has not come down, Indian companies now pay lower real interest rates than those in the US.

The US producer price index for November shows that prices fell 0.4 per cent. With the yield on an AAA-rated corporate bond at 3.79 per cent, the real interest rate faced by a top-rated US corporate is, therefore, 4.19 per cent.

In India, Hindalco Industries' 7.95 per cent 2007 bond, a five-year benchmark for corporate paper, is now traded at around 6.25 per cent in the secondary market.

The wholesale price index-based rate of inflation stood at 3.15 per cent for the week ended December 14.

So the real interest rate that top-rated Indian firms are paying today is 3.1 per cent, more than a percentage point lower than the real rate shelled out by US companies.

The Indian government has benefited even more from the low interest rates.

While the yield on the US 10-year bond is 4.06 per cent, giving a real interest rate of 4.46 per cent, the yield on the benchmark 10-year bond is around 6.15 per cent, giving a real yield of 3 per cent.

The real cost of borrowing for the Indian government is, therefore, almost 1.5 percentage points lower than the cost to the US government.

Kumar, who adopted a wait-and-watch policy before taking the plunge, saw five-year housing loan rates coming down from 11.5 per cent in January to 8.75 per cent now. He could not have asked for more.

However, Jyoti Rubber, a small-scale industrial unit based in Pune, and Deelep Shirshat, a Satara-based farmer, are not invited to this low interest rate party of the government of India, Reliance and Kumar.

They are still paying around a 14 per cent interest rate for their small loans to banks.

It is ironic but true that small borrowers are subsidising top-notch companies in the loan market. Banks are charging them 14 per cent so that they can accommodate the top guns at 7 per cent and at the same time protect their profitability.

The year 2002 was certainly a year of cheap money. It was not, however, one of a level playing field.

2002: The Year That Was

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