Cost of Funds
The blended average rate a bank pays on all its money — its purchase price for the cash it lends out.
Why you care
A bank buys money and sells it; this is the purchase price. Every loan must be priced above it, which is why a 0% current account is worth fighting for. It's the invisible floor under every rate your branch can offer.
Run the numbers
Blend ₹100 cr of deposits — 0% current, 3% savings, 7% FDs — and the average works out to ~4.45% (illustrative). Swap costly FDs for free current accounts and it drops fast. That's why branches chase CASA.
Where this goes
The repo rate sets the floor; your CASA-vs-FD mix sets the rest. Subtract this number from what your loans earn and you get the bank's interest income and margin. Lower cost of funds → wider margin → more profitable bank.
Why you care
Cost of funds is the average interest rate a bank pays on all the money it has raised — deposits plus borrowings — expressed as a single blended percentage.
A bank is really a shop that buys money and sells money. Cost of funds is its purchase price. Every loan your branch books has to be priced above this number, or the bank loses money on it. Understand cost of funds and you see why a 0%-interest current account is worth fighting for, and why the bank pushes 3-year FDs at quarter-end. It's also why two banks quoting the "same" home loan have completely different room to negotiate. For an RM or branch officer, cost of funds is the invisible floor under every rate you're allowed to offer.
Run the numbers
Suppose a branch has raised ₹100 crore of funds, made up like this (rates illustrative):
| Source | Amount | Rate paid | Annual interest |
|---|---|---|---|
| Current accounts (CASA) | ₹20 cr | 0% | ₹0 |
| Savings accounts (CASA) | ₹30 cr | 3% | ₹0.90 cr |
| Term deposits (FDs) | ₹40 cr | 7% | ₹2.80 cr |
| Borrowings | ₹10 cr | 7.5% | ₹0.75 cr |
| Total | ₹100 cr | — | ₹4.45 cr |
Blended cost of funds = ₹4.45 cr / ₹100 cr = 4.45%.
Now notice the lever: that ₹20 cr of current accounts costs nothing. If the branch could swap ₹20 cr of 7% term deposits for ₹20 cr of 0% current accounts, interest paid would fall by ₹1.4 cr and cost of funds would drop to ~3.05%. Same ₹100 cr of lending capacity, far cheaper. That is the entire reason branches chase current accounts.
Where this goes
Cost of funds is set partly by the repo rate (the floor RBI imposes) and partly by your deposit mix — how much is cheap CASA versus costly term deposits. Subtract this number from what your loans earn and you get the bank's interest income and margin. Lower cost of funds → wider margin → more profitable bank. This is why the deposit side of the branch matters just as much as the lending side.
What causes what
Before this
- The Bank Balance Sheetcauses Cost of FundsThe liability side's price is the cost of funds.
- Why Branches Push CASAcauses Cost of FundsEvery rupee of CASA lowers the bank's blended cost of funds.
- Cash Reserve Ratiocauses Cost of FundsCash locked at RBI earns nothing, so the lendable rest must carry it — raising effective cost of funds.
- Deposit Growthcauses Cost of FundsChasing deposits means raising FD rates, which pushes cost of funds up.
- RBI & the Repo Ratecauses Cost of FundsThe repo rate sets the floor under what banks pay for money.