The Mid-term Review of Monetary and Credit Policy for the year 1999-2000 has started off on a positive note with a forward looking thrust. Against the backdrop of visible industrial recovery leading to higher demand for credit, slight slowdown in deposit growth, an expected increase in the inflation rate to around 4 per cent average for the year and the possibility of additional government borrowings, the overall measures announced in the review positively address two key issues in the financial sector reforms:

The various measures effectively improve the market efficiency in view of the relaxation of several constraints;

The review also sends a clear positive message that banks should achieve better performance now that they will be in a position to manage their liquidity much better than hitherto. This would clearly help banks reduce their liquidity and interest rate risks of ALM with better confidence.

Coming to specific measures:
Firstly, a 1 per cent cut in CRR releases this year about Rs 7,000 crore of additional liquidity into the market. Conservatively speaking, this amount would enable banks earn at least Rs 560 crore of additional interest revenues.

Second, a 1 per cent cut in CRR also leads to an almost 0.5 per cent reduction in the cost of funds of banks which amounts to an effective reduction in the deposit rates without directly touching them. This is a most welcome step as otherwise reduction in interest rates would have created many undesirable macroeconomic imbalances. Above all, the stability of interest rates is ensured which sends the right signal to the forex markets also besides giving relief to the bank spreads from being further squeezed.

i) Introduction of a two-week lag in the maintenance of CRR by banks relieves great tensions the banks otherwise have been under as it simplifies CRR calculation.

ii) The slight downside of this is that it might create a little more volatility and noise in the monetary aggregates and monetary targeting.

Raising the minimum maturity of FCNR(B) deposits from the present six months to one year certainly helps reduce the short-term component of external debt from the present levels of 10.5 per cent to around 10 per cent this year and further down to 9 per cent during 2000. This certainly strengthens the forex reserves position against the vagaries of the external climate and especially that of the portfolio funds.

To effectively meet the millennium change challenges RBI’s special liquidity support and flexible treatment of CRR give a helping hand to make smooth millennium transition.

Streamlining of the norms on MMMFs, the delinking of PLR from the interest rates chargeable to a special lending purposes, the prospects of reforming the deposit insurance etc, are welcome measures to put the financial sector, in general, and the banking industry, in particular, on a high pedestal towards enhanced efficiency and sound performance.