The credit policy measures announced by RBI Governor are well-balanced. The financial sector reforms have been taken forward inter alia with the extension of prudential norms for market risk to cover non-SLR investments and further deregulation of lending rates for four specified catgories. RBI has also taken a holistic view of liquidity and its impact on the forex market.

The reduction in CRR and removal of incremental CRR on FCNR (B) deposits will help increase the lendable resources of banks and sends out a strong signal that funds will be available to support revival of industry and other sectors as economic revival garners momentum. It does not, however, necessarily suggest any downward revision in interest rates. In fact, RBI has well articulated the concerns of commercial banks with regard to the oft-repeated demand for reduction in interest rates.

As pointed out by the Governor, the most important factor in influencing interest rates is Government borrowings and, therefore, Government’s efforts to control fiscal deficit will have a direct bearing on the level of interest rates in the economy.

The deregulation of lending rates for certain categories of advances, along with the earlier freedom to banks to determine services charges, will put pressure on the profitability of banks to some extent. Banks are already facing competition on the liability side from mutual funds and this is likely to get intensified as money market funds also become more active. While extension of cheque writing facility to gilt funds will intensify the competition for banks, it will help retailing of gilts to the public and deepen the market for Government securities.

Raising of the minimum maturity of FCNR (B) deposits to one year from 6 months will keep short term external liabilities low and help reduce volatility in the forex market.

Investments from NRIs/FDIs will be greatly facilitated with the various relaxations permitted in the policy.

Financial sector reforms have been carried forward by expanding the coverage of prudential norms for market risk. The reduction in the ceiling on exposure to individual borrowers, measures to regulate NBFCs, review of procedures by Regulations Review Authority, steps for greater flow of information and transparency in the functioning of money markets will help contain systemic risk.

The first phase of financial sector reforms has witnessed discernible progress in several areas including accounting and regulatory aspects. The results of the first generation reforms are evident in the improved efficiency and transparency in the financial sector. The Narasimham Committee on Banking Sector Reforms has made wide-ranging recommendations to improve the financial health of banks.

Several of these have already been accepted by the Government and implemented by RBI. However, structural issues such as privatisation, mergers and restructuring of public sector banks require greater initiatives.

The next phase of banking and financial sector reforms will now need to consider the implications of several far-reaching changes set to take place in the banking sector. For instance :
* what will be the fallout on banks from mergers and acquisitions?

* how will the system cope with the emergence of financial super markets which will provide a range of financial products under one roof?