Inflation fall gathers speed

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New Delhi: Inflation fell sharply by 44 basis points to 8.4% for the week ended November 22 as commodity prices declined and demand slowed. In anticipation of a rate cut by the Reserve Bank of India (RBI) and fiscal stimulus package from the government, the country’s major stock markets rose encouragingly on Thursday.

The 30-share BSE Sensex added 482.32 points, or 5.51%, to close at 9,229.75 points. The broader S&P CNX Nifty of the NSE gained 131.55 points, or 4.95%, ending at 2,788 points.

Arguing that the decline in inflation was faster than expected, RBI governor D Subbarao said in Hyderabad that the central bank would try to maintain a comfortable liquidity position. In a very clear signal to market participants, the governor said RBI would ensure that “the weighted average overnight money market rate is maintained within the repo-reverse repo corridor”.

Repo, now at 7.5%, is the rate at which RBI lends short-term funds to the banking sector, whereas reverse repo, currently at 6%, is the rate at which banks deposit funds with the apex bank. “We hope that all economic agents will plan their business activities on the basis of this assurance,” Subbarao said. In times of comfortable liquidity, the overnight call money rates should move within this 6-7.5% corridor.

Subbarao’s categorical statement makes clear RBI’s intention to pare rates in case call money rates move out of this corridor. After the collapse of Lehman Bros in September, overnight rates jumped to above 20%. The weighted average call money rate, which was at 6.09% on Wednesday, has been at the lower end of the corridor in the last few weeks. While analysts expect a cut in both repo and reverse repo rates, the case for a reduction—or at least a sharper cut—in the latter looks stronger.

A reduction in cash reserve ratio at the moment is, however, ruled out as liquidity appears to be comfortable, which is corroborated by the fact that banks deposited Rs 1,98,215 crore with RBI through reverse repo in the last four days, while they borrowed a mere Rs 500 crore. The reduction in reverse repo rate would reduce the incentive for banks to park funds with RBI and increase lending in the economy. RBI further said it would ensure conditions conducive to the flow of credit to productive sectors, particularly the stressed export and small & medium enterprise sectors.