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Interest rates are bottoming out – Want to take a loan? The right time is now!

The interest rates are near their bottom today, before they move up again. This is the right time to take a home loan, a car loan or any other long term loan. It also has implications of FDs that you might want to keep.



Interest rates move in cycles. They move up, move down, and then move up again periodically.

Just 2 years ago, we saw rates that were pretty high – about 14% per annum for home loans. And then, we saw them go down due to the credit crisis and the resulting slowdown.


Rates reduced due to the slowdown

There were two reasons for the interest rates reducing during this slowdown.

Lesser demand for money

The demand for borrowed money has decreased in the recent past.

Companies are not borrowing, as they are not certain about the future demand for their products. People are not borrowing, as they are not certain about the future of their jobs and incomes.

This reduction in demand puts pressure on the interest rates, and they tend to go down.

Aggressive rate reduction by central banks

Most central banks, including the Reserve Bank of India (RBI), have been reducing interest rates aggressive to support the economy in this downturn.

Since banks can borrow at a lower rate from the RBI, they can also lend at a lower rate. Thus, the overall interest rates have been sliding down.

Is the recession over?

Going by these reasons, the interest rates should remain low till the time the recession is over. Rates should not go up till we see growth picking up again.

Is this happening? Not yet. So why are the interest rates getting impacted?

There is another factor that has come into play, which is completely changing the demand – supply equation for money in India.


The impact of Budget 2009

In the budget for the year 2009-2010, the government has lined up huge expenditure for various programs and schemes.

However, the overall expenditure of the government is far higher than the revenue it is expecting to collect through various taxes and other means. Thus, there is a very large gap (or shortfall) between the funds the government would be generating and the money it would be spending.

What does this mean?

This means that the government would borrow the difference from the market. (It is just like the situation for you and me – if we fall short of money, we need to borrow. The same is true for the government as well!)

And since this amount of borrowing is going to be huge, this would create a lot of additional demand for the funds available for lending.

Has the bottom been reached for interest rates?

Due to the two factors mentioned earlier (lesser demand for money and aggressive rate reduction by central banks), the rates have been steadily reducing for the past 1.5 – 2 years.

Considering just the normal economic factors, there is scope for the rates to reduce further. However, the large borrowing program of the government would most certainly put a brake on this.

In fact, there is a high possibility that the rates would move up slightly due to this. And when growth in the economy actually picks up again, the interest rates would shoot up due to all the additional demand created by companies and individuals.

Thus, there is a very high possibility that we are seeing the bottom of the current interest rate cycle right now.


What does this mean for you?

Coming to the most important question – what does all this imply for you?

This is the right time to take a loan

If you are planning to take a long term loan like a home loan, the correct time is now.

Make sure that you take a fixed rate loan, so that you don’t get affected by the rising interest rates.

(Check out “An introduction to home loans and factors to consider” for more on home loans, and “Income Tax (IT) Benefits of a Home Loan / Housing Loan / Mortgage” for the income tax benefits that a home loan offers)

The fact that property rates have reduced a lot in most cities (and are also bottoming out) would only help you in acquiring a house at the right time!

Tip: If you haven’t finalized a property, you can always get pre-approved by a bank for a home loan. That way, you would have approval for getting a loan at a certain rate, and this approval (and the rate) usually remains valid for 3-6 months.

Fixed deposits (FDs) – Should be for short term

If you want to save some money in fixed deposits, open only a short term fixed deposit (maybe for 6 months to a year).

(Check out “Fixed Deposit (FD) – A favourite for generations” and “Fixed Deposits (FD) for saving income tax through section 80C” for more on FDs)

The rates are going to go up – and you wouldn’t want to get stuck holding a low-rate FD for a long term!

If you open a short term FD today, you can benefit from the increased interest rates when your FD comes up for renewal.

Conclusion

The rates are bottoming out, and they would not go much lower (if at all) before they start rising again.

If you are planning to take a loan, lock-in to the interest rates today – today’s rates may not be available for another 5-6 years! Also, make sure that you opt for fixed rate loans.

If you are planning to invest your money in bank FDs, invest only in a short term FD so that you can benefit from increased rates during renewal.

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