Interest Spreads Of Banks Will Be Under Pressure

Updated: Oct 30 2002, 05:30am hrs
Strengthening the long-term foundation for the stability of the Indian financial sector, the Reserve Bank of India (RBI) has announced a series of measures to develop the technological and institutional infrastructure of the financial sector and to improve the existing credit delivery system.

While reducing the Bank Rate to 6.25 per cent from 6.50 per cent, RBI has indicated that no further reduction will be effected for the remainder of the current financial year. This suggests that we may have touched bottom in respect of interest rates.

The simultaneous reduction by 25 basis points in the cash reserve ratio (CRR) is unlikely to help banks, given the substantial liquidity that already exists in the system.

However, volatility in CRR maintenance will be reduced by the new requirement to maintain a minimum of 80% of the CRR on a daily basis.

The CRR cut itself was not universally expected, but demonstrates RBIs commitment to reduce it to 3% over the medium term.

The reduction in the Bank Rate, repos rate and CRR will not only keep interest rates low, but also enable top-tier corporates to reduce their interest costs further.

Banks interest spreads will consequently remain under pressure.

However, offsetting this to an extent is the opportunity that is expected to obe available to banks to earn trading profit from government securities this financial year as well - the third straight one in a row.

In a sense, RBI countered its own reduced forecast for GDP growth by lowering repo rates, effectively discouraging banks from parking their short-term surpluses with RBI and urging them to use such short-term funds to support economic activity through investment in financial instruments.

The policy has focussed attention on priority sector lending as well, allowing flexibility to banks, and identified weaker sections of society are expected to be the main beneficiaries.

Bhaskar Ghose, MD, IndusInd Bank