Focus On External, Local Market Cohesion

Updated: Apr 30 2002, 05:30am hrs
The Policy, announced by the RBI today, builds on earlier Policy statements and focuses on the need to achieve a prudent financial system, allowing an easier dispensation of credit and a greater cohesion between external and local markets.

On the monetary front, the RBI has reduced CRR from 5.5 per cent to 5 per cent effective June 15th. While some sections of the market expected the RBI to use this opportunity to lay out its roadmap to cut CRR to 3 per cent, the RBI has reiterated the 3 per cent level as being its medium-term objective without placing a timeframe for the cuts. The RBI has also indicated its willingness to be flexible in bringing forward the June 15th cut in the event that the liquidity situation in the market warrants it.

Additionally, the Policy statement also indicates RBI’s willingness to cut Bank Rate by 50 bps to maintain stability in the current interest rate environment. The Policy also addresses a number of structural issues, especially the cost of credit to the final borrower and the usage of the call and notice money market by banks. The increase in spread, on 5-year AAA corporate papers against GoI yields, to 177 bps in April 2002 from 65 bps in March 2001 has been highlighted in the Policy. In an effort to reduce the spreads on loans to corporates, the RBI has asked banks to review and declare the maximum spread on PLR and their minimum/maximum borrowing rates. Export credit rates too have been modified to increase the competitiveness of Indian exporters.

The external sector has also received attention in the Policy. Banks will now be allowed to borrow/lend in the overseas market up to 25 per cent of their Tier-I capital. The enhancement from 15 per cent alongwith the permission to invest in longer tenor fixed income instruments will allow for better asset liability management of foreign currency deposits. This step will also lead to a further integration of the overseas and domestic markets.

The RBI has also announced restrictions on the call and notice money exposures of banks. This step was widely expected and the actual caps of, 100 per cent net owned funds or 2 per cent of deposits, whichever is higher, on borrowers is better than market expectations. The cap on lenders, in terms of 25 per cent of net owned funds, is likely to see investment in short tenor securities and the eventual development of a term money lending market.

On the whole the Policy shows a set of prudent steps taken by the RBI to introduce a few structural measures and a cautious monetary easing aimed at reducing the cost of funds to the bank and the final borrower.