The Reserve Bank of India (RBI) on Monday left its key policy rate unchanged at 8% staying committed to fighting inflation, already at an elevated 7.55% and headed higher after the diesel price hike. However, in a somewhat surprising move, the central bank trimmed the cash reserve ratio (CRR) by 25 basis points to 4.5%, freeing up an additional R17,000 crore for banks to lend to companies and individuals. While inflationary over the longer term, the measure, effective from September 22, should make it possible for banks to lend cheaper. Indeed, State Bank of India (SBI) chairman Pratip Chaudhuri indicated as much, saying there was scope to stimulate demand in the industrial and SME segments.
The RBI has long held that sustainable growth was possible only with moderate inflation and its prognosis on the rise in prices is that it is strong both at the wholesale and retail levels. ?The primary focus of monetary policy remains the containment of inflation and anchoring of inflation expectations,? the central bank said. While acknowledging the government?s reform measures, the RBI noted that ?monetary policy will reinforce the positive impact of these actions, while maintaining its focus on inflation management?.
Both the bond and equity markets were clearly disappointed with bonds selling off ? the yield on the benchmark rose from 8.11% to to 8.17% after the announcement and treasurers believe they could edge up further. The Sensex gave up much of its early morning gains, but bounced back after bankers hinted that loans rates could be lowered for industry.
Economists believe the RBI may cut rates later in the year even if inflation remains above the RBI?s medium-term trajectory of 4-5%. Rohini Malkani of Citigroup wrote: ?We maintain our view of the RBI easing rates by 50 bps in 2HFY13 given the deceleration in growth, the FM talking about further measures on the fiscal front and the RBI saying ?monetary policy also has an important role in supporting the growth revival?.?
Leif Eskesen, chief economist, India and Asean, HSBC, said the decision to cut the CRR was ?surprising in light of the perfectly adequate liquidity conditions and, on balance, seemed a bit inconsistent with the statement?s overall hawkish tone?. However, while liquidity remains comfortable right now with the deficit at around 1% of the net demand and time liabilities, in line with the central bank?s comfort levels, the RBI appears to be preparing for a possible pick-up in demand for credit as also the festive season.
PMEAC chairman C Rangarajan noted that the CRR cut was a signal that the RBI was taking into account the government?s actions towards fiscal consolidation. ?Under the circumstances, this is the maximum the central bank could have done,? Rangarajan said, adding that cutting the CRR is a more potent move since it acts on the liquidity base.
While appreciating the RBI?s initiative to infuse liquidity, finance minister P Chidambaram said the government will take more policy steps in the next one- and- a- half month to revive growth. ?I am very confident that between now and October 30 the government is expected to take a number of additional policy measures and also lay out a plan of fiscal consolidation. The response of RBI on October 30 will be far more supportive of growth,? he said.
