Former deputy governor of the Reserve Bank of India (RBI) and noted economist, SS Tarapore, has strongly suggested a 100 basis point hike in bank cash reserve ratio (CRR).

It assumes significance at a time when the RBI will review its monetary policy for the first half-year and announce new measures. The RBI?s review policy will be announced on October 30.

Addressing the Risk Management Congress of Dun & Bradstreet in Mumbai on Tuesday, Tarapore said, ?To be able to reduce interest rates, the authorities should be in a position to loosen monetary policy by reducing the CRR.? Such a policy response would be counterproductive as it would merely aggravate the present excess liquidity in the system, he said. Hence, Tarapore favoured a hike in CRR. ?The appropriate policy action would be an increase in the CRR, by say one percentage point, which would mobilise about Rs 30,000 crore of funds from the system.?

To the extent capital inflows continue to remain large it would be feasible to use the instrument of an incremental cash reserve ratio, of say 10%, which, in the current financial year, would immobilise about Rs 20,000 crore he said. He advised that reverse repo under which the RBI immobilises excess liquidity for very short periods, should be used like plimsoll line which help determine the modulation of more enduring measures of immobilisation.

Tarapore has also suggested imposition of an unremunerated reserve requirement on all capital inflows under which, say 10% of the capital inflows are deposited with the RBI for a period of one year. Tarapore said that the distinction between foreign direct investment and foreign institutional investment is blurred with the sizeable emergence of private equity. Apart from it, he advised revisiting the issue of participatory notes as one of the measures to check capital inflows.

On the subprime issue, Tarapore said, ?We in India are heading towards our own home-grown subprime credit crisis.? It was erroneous to believe that the newer sectors of lending like personal loans, credit cards, real estate, housing and capital markets were not really risk prone and lending to these sectors reached compulsive proportions, said he.

Expressing his concern over the appreciation of the rupee, Tarapore said that if the rupee continues to appreciate vis-a-vis the dollar from the present level of Rs 39 to say Rs 30, be sure that a backlash, a few months, will take the exchange rate to Rs 50.

Economic agents need to build into their strategies that while large capital inflows would continue, at least for the next few months, policy action would be taken to immobilise a substantial part of these capital flows.

While the cost of sterilisation of these capital inflows are generally ?quantifiable?, the cost of not sterilising, which reflect in higher inflation and loss of output are not easily quantifiable. It would be reasonable to expect that the RBI would use a fine blend of measures rather than rely on a single instrument to deal with the problem of excess liquidity.

The danger of a single instrument is that it has to be used to such an extreme that it results in severe distortions, said he.

Commenting on the market stabilisation scheme (MSS), Tarapore said, ?It would be totally erroneous to believe that the enhancement of the MSS ceiling is adequate to tackle the problem of excess liquidity.?

The enhanced MSS ceiling would barely suffice to immobilise the rupee liquidity resulting from the increase in forex reserves in the week of September 28, 2007, when the reserves rose by $11.9 billion. Hence, there is need for a number of other instruments, he said.