RBI Study Finds Banks Pass on Interest Rate Hikes More Fully Than Rate Cuts

Banks in India tend to transmit increases in the Reserve Bank of India's (RBI) policy repo rate to borrowers more completely than they pass on reductions, according to a recent study published in the central bank's October 2026 Bulletin. The findings highlight an uneven pattern in monetary policy transmission, with borrowers experiencing faster increases in lending costs during tightening cycles than the relief offered during periods of lower interest rates.

The study, titled Transmission to Lending Rates of SCBs: Price versus Composition Effects in WALR, examined how changes in the repo rate affect lending rates charged by scheduled commercial banks. It also assessed how shifts in the composition of banks' loan portfolios influence average lending rates.

Lending rates respond differently to hikes and cuts

During the monetary tightening period between March 2022 and January 2025, the RBI increased the repo rate by a cumulative 250 basis points. Contracted lending rates rose by 191 basis points over the same period, representing a pass-through of approximately 76.4% of the policy rate increase.

The pattern was different during the subsequent easing phase. Between February 2025 and March 2026, the central bank reduced the repo rate by 125 basis points. However, contracted lending rates declined by only 80 basis points, equivalent to a transmission rate of around 64%.

These figures suggest that the adjustment in contracted loan rates was less complete during the rate-cutting period than during the tightening phase.

Loan composition changes the overall picture

The study also examined the weighted average lending rate (WALR), an indicator that reflects the average interest rate charged on bank loans. Unlike contracted lending rates, WALR is influenced not only by changes in interest rates but also by shifts in the types of loans banks issue.

After accounting for these composition effects, the difference between the two monetary policy phases became much smaller.

During the tightening period, the 250-basis-point repo rate increase was associated with a 181-basis-point rise in WALR, indicating a pass-through of 72.4%. During the easing period, the 125-basis-point repo rate reduction resulted in a 93-basis-point decline in WALR, translating into a 74.4% pass-through.

This comparison shows why the method used to measure transmission matters. Contracted lending rates indicate how existing loan pricing responds, while WALR also captures changes in the overall mix of credit.

MSME lending contributed significantly to the decline

The researchers also analysed lending rates across different categories. MSME loans made the largest contribution to the decline in fresh-loan WALR during the easing period.

Interest rates on fresh MSME loans fell by 122 basis points, close to the cumulative 125-basis-point reduction in the repo rate. Benchmark-linked repricing accounted for 118 basis points of this decline and reduced the system-wide WALR by 24 basis points.

Education loan rates recorded a larger reduction of 162 basis points. However, their contribution to the overall decline in lending rates was minimal because education loans represent a relatively small share of total bank credit.

Rupee export credit rates declined by 161 basis points but contributed only five basis points to the overall reduction. Lending rates for large industries fell by 67 basis points, contributing nine basis points.

Why the findings matter for borrowers

The study points to the importance of looking beyond changes in the RBI's repo rate when assessing borrowing costs. A policy-rate reduction does not automatically result in an equivalent fall in every loan's interest rate. The final impact can depend on loan benchmarks, repricing arrangements and changes in banks' lending portfolios.

The findings also underline the role of monetary policy transmission in determining how effectively central bank decisions reach households and businesses. For borrowers, the timing and extent of any reduction in lending rates may vary depending on the type of loan and its pricing structure.

Overall, the research highlights that the relationship between policy rates and bank lending rates is not always uniform. Understanding both interest-rate adjustments and changes in credit composition is essential to assessing how monetary policy affects borrowing costs across the economy.