He has a Reddy solution on rates

Updated: Jul 31 2006, 05:42am hrs
Reserve Bank of India governor YV Reddy seems to have turned the tables on the issue of an interest rate hike this time round.

It is really remarkable how Reddy, who will be completing three years as governor shortly, has managed to handle the controversial issue of interest rate hike through his successive policies. Perhaps, given a choice, he would have even avoided opting for these measures. And sometimes, there also appeared to be a perceptible difference between the views of the ministry of finance and RBI on the issue of interest rates.

It is worth recollecting how, on an earlier occasion, union finance minister P Chidambaram had to intervene to persuade the bankers not to raise their lending rates even after RBI signaled a rate hike. In one of their meetings with Chidambaram, the bankers had come out openly against the RBI moves to hike rates which had made raising resources costlier and had also had an impact on liquidity.

However, if one takes into account the views of the bankers and corporate honchos -- both on and off the record -- there is a marked difference in how they have reacted to Reddys latest round of hikes unveiled last week -- in the repo and reverse repo rates, by another 25 basis points to 7 and 6% respectively.

This time, it appears that the banking community has accepted wholeheartedly Reddys rationale that there is a need for checking inflation, even if it means resorting to a fifth round of hikes in the reverse repo rate, which has now touched a four-year high.

Commenting on the latest round of hikes, even R Seshasayee, president, Conederation of Indian Industry (CII) had said that this is unlikely to affect the demand for long-term credit, or the long term fixed rates for corporate borrowing.

Seshasayee went on to say that the RBI has acted pre-emptively to ensure that any combination of cost-push and demand-pull do not result in a disproportionately high inflation or high inflationary expectations.

Explaining the consensus over the RBIs stand, OP Bhatt, chairman, State Bank of India, said everybody was pleased to see that there have been no revisions in macro projections for GDP growth and inflation.

Projections for monetary aggregates, including M3 and credit and deposit growth have also not been revised, though RBI has explicitly indicated that demand pressures, as shown by the strong growth in money supply and credit, will need to be closely watched.

Other bankers point out that inflation is moderate, but M3 and credit growth are running at well above projected levels, which could aggravate demand pressures. Inflationary expectations could get aggravated given the risk of volatile global oil prices and its incomplete pass through to domestic prices. Also globally, inflation appears to be leading to rate hikes by a large number of central banks. Thus, at this juncture, RBIs decision to raise the reverse repo rate and the repo rate by 25 bps indicates a fine balancing act between the need to sustain the domestic growth momentum while at the same time taking steps to ensure price stability and financial stability, they feel.

Said KV Kamath, managing director & CEO, ICICI Bank, Of course, as bankers we need to recognise the note of caution sounded by RBI given the global and domestic factors. We believe that the financial system is well positioned in the context of these emerging trends. However, what really must have made bankers happy, particularly in the public sector banking space, after the latest move is that the Centre is also not advising them not to increase their lending rates, something which they have been planning for some time now to boost their bottomlines.