issue," the Governor said.
Without giving a timeline, Raghuram Rajan said the gap between the repo rate and the MSF will be narrowed down to 100 basis points, which will signal a shift back to the normal process of monetary policy wherein the repo is the operational rate.
One basis point is equal to 0.01 per cent.
Raghuram Rajan said he expected banks to pass on the reduction in cost of funds to the borrowers by setting their rates "appropriate to the cost of funds", a move that can help drive investment.
"The intent of the policy today is primarily to say the cost of funding is very high; we need to withdraw these liquidity (tightening) measures as soon as the markets allow it...immediately there will be a reduction in the cost of funding to the financial sector," the RBI Governor said.
However, bankers did not buy his argument for repo rate hike and said lending and deposit rates will have to rise.
SBI Chairman Pratip Chaudhuri said: "Now that the busy season has started, there is a huge credit demand and banks are scrambling for deposits. Deposit rate, I think, will go up and accordingly lending rates can also go up."
However, Chaudhuri, who raised his base rate by 10 bps yesterday, ruled out a hike in base rate.
In July, RBI had resorted to a slew of unconventional liquidity tightening measures like increasing the MSF rate by 300 basis points and asking banks to maintain CRR at 99 per cent, to arrest the steep fall in the rupee.
The local currency has been under sustained pressure ever since the US Federal Reserve chief Ben Bernanke hinted at withdrawing its stimulus on May 22.
The RBI had postponed its mid-quarter review by two days because of the Wednesday meet of the US Fed, which decided to continue with its easy money policy for now.
On the possible tapering US economic stimulus, Raghuram Rajan said: "We should not be complacent in the event of the US tapering and should emerge stronger to take on the tapering, whenever it comes."