Teaser Rates offered in India…are any lessons being learnt?

Deepak Parikh yet again. He is perhaps the only one who talks about the unfair practices in housing market in India. Mint has an interview of the HDFC Chairman.

Many home loan lenders are now offering loans cheap for the first two years, enticing borrowers. But if the rates go up substantially after two years, won’t there be a problem as many borrowers may not have the capacity to service loans at higher rates?
 
It’s not a very healthy way of lending. It can create problem, as you said, in future, particularly if the rates shoot up.
 
Today what we are saying is, if it’s 8% or 8.25% for the first two years, the rate will be 9% afterwards and so the gap is very little. Suppose interest rates in India shoot up in the next three years, then what will happen? These are all floating rate loans and fixed only for first two years. So, 8% interest will become 12% or even more. Then, the gap will be too much and it’s a problem for the individual home-owners.
 
To some extent, we are playing with fire, but it’s a marketing gimmick. It’s a tool—I always say it’s a teaser rate—to get a customer attracted towards you. Financial innovation doesn’t take time; if one does it, everyone copies. It can be done in 24 hours.
 
Now most banks have this product. If a regulator were there, he would have been concerned about it.
 
You see seeds of a problem in such loans?
Yes, if interest rates go up in the future.
 
But aren’t you also offering this?
We are appraising these cases today as if the borrowers need to pay more than 9% and not 8.25%. Because that’s where the rates will be after two years. A borrower’s affordability or repaying capacity is gauged today at a higher interest rate. We are building that buffer today, but if 9% or so becomes 12.5%, then there is no buffer.
 
This is precisely what happened with numerous borrowers in US and elsewhere. Teaser rates teased them initially and then they had to suffer big time later. However, we fail to learn any lessons. In fact, the crisis has still not faded away and banks are offering teaser rates and am sure people are signing up. Just a while ago bankers/policymakers  said crisis issues like teaser rates etc do not exist in India and hence India is safe. Look what is happening now.
 
The housing market is divided into 2 types – housing general market and housing finance market. In US the problem was mainly housing finance. In India the problem has always been housing general market with numerous distortions. Now housing finance seems to be catching up as well with these teaser rates.
 
Why don’t we see any reforms in the housing market ? Parikh offers explanation:
 
You advise the government on many policy issues. Why isn’t this happening?
 
It’s a state subject. It’s very difficult to introduce something at the Centre and then get it to filter down to the state level. We need to do something on the lines of the power sector, which is a state subject. The Central government recommended the splitting of transmission, generation and distribution of power. Many states have complied and many haven’t.
 
More and more states are complying with it, but it takes a long time. Most of the states now have got regulatory body for the sector at the state level—the state electricity regulatory commission. The tariff cannot be increased unless the regulator agrees.
 
Again the problem is politics. Nothing seems to move in Indian political system and is always a risk. Even if a state govt wants to do something builder/broker lobby would not allow it. We can again see the parallels with the recent crisis. There also the lobbies did not allow any reform and the repercussions is there for all to see. Lobbying/Corruption in financial sector has become a hot topic. 
 
He says a housing market regulator is a must:
 
How do you bring back the confidence? Will the creation of a real estate regulator help?
I have been always advocating that we need a regulator in real estate. It’s the largest purchase any family makes. You try to buy a house in any part of India and see the problems and the sleepless nights you would need to spend.
 
It’s a very complex subject—you can lose money very easily; you can get gypped very easily; your money can get stuck for a long period as the developers may take two, three, four years extra to complete the project. Then, there are other issues: the specifications, quality may differ. All kinds of things can happen.
 
Why can’t we have a regulator who classifies developers, evaluates them, grades them? We need to bring in some code of ethics.
 
These are all problems of the housing general market. Known to all but nothing is done about them. The high prices is one thing. There are just so many other issues with buying a house in India. A buyer is fleeced left right and centre – by the broker, builder and then the banker.
 
It is unfortunate that no lessons are being learnt from the crisis. On the contrary, all the wrong lessons are being learnt. It is not the ideal way to learn- but we need a homegrown housing crisis to usher any change. Till then buyers will always be fleeced.
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4 Responses to “Teaser Rates offered in India…are any lessons being learnt?”

  1. Abhilash Kushwaha Says:

    I agree infact banks are pushing this product. I have a home loan from ICICI and wanted to repay part of the loan. Imagine my surprise when the bank pushed me to refinance the loan.

    I decided to think over it and did some calculations.

    Currently, I have a floating rate at 11.25% (FRR-1.5%). The new rate was fixed at 8.75% (I think it was reduced to 8.25% few days back). The refinance fee was 2%. I calculated I would have broken even by the 13th month i.e. the principal outstanding with refinancing would be lower in the 13th month as compared to continuing with current plan.

    It makes sense to refinance the loan. However, the catch is I would loose the 1.5% discount I currently have on FRR. So after 2 years when the rate resets it will be at FRR and not at FRR-1.5%.

    After reset, I will be paying extra 1.5% over the life of the loan if I refinanced. In my particular case with some years still left it turned out to be more costly and did not make any sense.

    Had I refinanced as the the bank insisted I would have been worse off. To do these calculations actually requires some financial awareness, which most of the people may not have. Also, when they tell you to refinance they do not say it is a teaser rate. They tell you its 8.75% fixed, which is misleading as it is fixed only for 2 years.

    I completely agree that Indian banks have learnt nothing from the sub-prime crisis.

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