In pre-urban societies, loans were made in seed seeds, animals and tools to farmers. Since one seed grain could generate a plant with over 100 new grain seeds, after harvest, farmers could easily repay the grain with an “interest” in the grain. Additionally, since it was possible to use so many seed seeds, there were natural limitations to this lending activity. When animals were loaned out, interest was paid by dividing the new born animals. What was loaned had the power of generation, and the interest was a sharing of the result. Interest on tool loans would be paid on the product that the tools helped create.
In his ancient economic history, for example, Heichelheim, a German-born ancient historian specializing in ancient economic history, believed that this type of loan occurred as early as the Neolithic Age, the first ‘food money’. and the credit being linked around 5000 BC. AD: “Dates, olives, figs, nuts or cereal seeds were probably loaned. . . to serfs, poorer farmers and dependents, to sow and plant, and naturally an increased part of the harvest had to be returned in kind. In addition to fruits and seeds, “animals could also be borrowed for a fixed period, the loan being repaid at a fixed percentage on young animals born subsequently”.
Today, the basic principles of the Interest component remain the same. However, its implementation and methodology have undergone a radical change. Banks and financial institutions are engaged in an interest rate war to attract more and more companies through depositors as well as borrowers.
What are the main interest options available to borrowers?
It is imperative that individuals and organizations understand the different aspects of interest rates and their impact on them, especially at a time when they are borrowing money from banks and financial institutions. Bank branches remain inundated with clients seeking access to loans to negotiate their various needs. And, of course, liberal lending has revolutionized the lives of businesses and people.
However, it has been observed that in the rush to get a loan, borrowers show no interest in understanding different aspects of a loan process. Most of the time, they don’t calculate the cost of their loan – the interest rate and its application to the loan amount.
Usually, there are two options for charging interest on loans – the fixed rate option and the variable rate option. In fixed rate options, the interest rate is usually fixed for the entire term of the loan. It is not tied to market conditions and remains stagnant throughout the loan currency. However, this fixed rate option may also change.
In the case of a variable rate loan, the interest rate is not fixed. It is linked to MCLR (Marginal Cost-based Lending Rates). The marginal cost of funds lending rate is the minimum lending rate below which a bank is not allowed to lend. At present, banks in accordance with RBI instructions use the loan rate linked to the repo rate (RLLR). In the RLLR model, any change in the pension rate has a direct impact on interest rates.
For example, if the RLLR is increased, the interest rate on loans will also increase and subsequently the EMI will also increase. However, if the RLLR drops, the interest rate on the loans will also drop. The bank sets a spread between BR and variable rate while sanctioning a loan.
Specifically, the variable rate option means that the interest rate on the loan will fluctuate, up or down, depending on market conditions.