Inflation falls to '02 levels

Written by Economy Bureau | New Delhi | Updated: Mar 6 2009, 05:49am hrs
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Inflation fell sharply by 33 basis points to a six-and-a-half-year low of 3.03% for the week ended February 21. The news came a day after the Reserve Bank of India announced a 50-basis-point cut in repo and reverse repo ratesthe rates at which banks buy and sell rupees from the central bank.

Analysts said the drastic fall in inflation gives RBI space for bold rate cuts and to pressure banks to cut their lending rates. RBI figures show the prime lending rates of banks range between 12.75% and 13.25%. The figures also show that from mid-December to mid-February, the banks have lent only Rs 8,000 crore to industry, compared to Rs 89,000 crore in the same period last year.

The low inflation also gives headroom for the outgoing government to avoid new measures till a new Parliament is sworn-in in June. Union Bank of India announced a cut in rates while housing finance institution HDFC said it could make some changes once the financial year closed out in March.

But despite the low inflation number, stocks fell and rupee depreciated since the scale of RBI rate cut was below expectations. The 30-share BSE Sensex ended down 2.94% at 8,197.92 points and the 50-share NSE index ended down 2.59% at 2,576.70 points, the lowest in more than three years, as rate cuts failed to bolster investor confidence and foreign investors sold stocks on a gloomy outlook for the economy. The rupee closed lower at 51.655/665 to a dollar, from Wednesdays close of 51.53/55. The current inflation rate is the same as recorded in the week ended October 19, 2002.

We expect to see further monetary easing to the tune of 100 bps in the coming months, said Citi India economist Rohini Malkani. Goldman Sachs said the RBI rates cut would bring down the prime lending rates, even as it projected another cut in the cash reserve ratio by the central bank.

Goldman Sachs said in a note that it did not foresee further reverse repo cuts until the end of the elections. The administered savings rate at 3.5% may act as a constraint, as we believe it will be politically inexpedient for RBI to cut the administered rate during an election, and reducing the reverse repo below the savings rate would hurt bank profitability. For a more accommodative policy, we expect RBI to move towards more quantitative easing through open market operations. We also expect RBI to cut the CRR of banks by another 150 bps by mid-2009.