Nothing else needs fixing now

Updated: Oct 31 2007, 07:37am hrs
After unveiling RBIs mid-term review of monetary policy, which aims to suck out a part of the liquidity overhang while leaving room for growth, YV Reddy explained the reasoning behind his policy initiatives to FEs Sourav Majumdar. Excerpts:

If I may start with a pun, can we look at this review as a Reddy for action policy

The way I would look at it, the situation in the demand-supply balance and inflationary pressures on all of them are more stable now than one year ago. Except on one domestic issue: liquidity. From the domestic side, (the policy) is not flagging any issue except, of course, capital inflows and liquidity. But on the global side, what it says is that on the basis of current expectations of a possible spillover, we will be less affected than others, but we still require vigilance. And, if anything untoward happens globally, we should be prepared to respond. Here, we means all of us.

In that sense, from the RBI monetary policy point of view, it is very clearly a signal that imbalanceswhether it is the credit-deposit ratio, excessive credit or other imbalanceshave been significantly corrected. So, in a way, on current indications, we are in a state of continued growth with stability, both on the price and the financial front. If there is no untoward development, theres no need for action. Things are going fine. As we see it, on the domestic front, we dont see anything that needs serious fixing, except for liquidity.

On the liquidity issue, too, I am addressing the overhang and am not making any assumption about the future. The future will depend on how things unfold.

But youve left some overhang in the system still, since you said the it is to the tune of Rs 30,000 crore...

There is a slight overhang in the system left. To be very frank, it is an evolving situation. If there is an overhang of liquidity, if the balance was fear of immediate inflationary pressure, I would have liked to suck out the whole of the liquidity overhang. If the balance is not fear of inflation, then I am willing to give a little headroom for liquidity so that growth is not constrained.

So you dont see any immediate inflationary pressure

As of now, theres nothing which needs to be fixed except liquidity. Between sucking out the whole liquidity and doing half, and waiting and watching for further developments, I prefer to suck out half. In the highly short-term contextual liquidity consideration, anuanced weight had to be given, and I prefer to give leeway for growth and take that marginal risk on inflation. Its so much at the margin.

Even after the recent Sebi move on participatory notes, the surge of inflows seems to continue. Dont you think this short-term move on CRR will have to be backed up by more

As I said, that would depend on evolving circumstances, and it is not possible to take a view on capital flows and liquidity at this juncture. If you look back, would it have helped if someone took a view three months back, six months back, nine months back The outcome has been so unrelated to our fundamentals and our policy actions that there is no point even presuming something and proceeding on that basis if you can afford to get away with it. And I believe that at the moment, we can afford to get away with it, without necessarily insisting on a presumption this way or the other, and keep the option open of waiting, seeing and responding at the adequate time.

Youve talked of the possibility of unconventional methods being required and that the Indian financial system should also be prepared for such methods from RBI. How unconventional is unconventional

(Laughs) How unprecedented is unprecedented It will depend on that!

Wrong question to ask a wordsmith, I guess! On asset prices, youve still flagged some concern

Yes, particularly on equity and real estate.

But youve not touched the risk weights on those this time. Whats the thinking on that

We have sensitised the banks on this and, where necessary, we are looking at a supervisory angle. We are reasonably satisfied that the banking system has not taken too many risks--thats the current indication. But its an ongoing exercise. And if required, we can take bank-specific action. I have a feeling that on a system-wide basis, there is improvement. The problem arises because of the flows, which arise from the external situation. If they keep flowing to the equity markets and to real estate, thats going to keep pushing prices up. But I cannot keep squeezing the banks on that account, except to tell them that as far as your exposure goes, please see that it does not make you vulnerable and make the system vulnerable.

In fact, some bankersmaybe they are trying to please medid say that it was a timely warning. Quite a few bankers said, we were unhappy that you were trying to put the brakes, but in retrospect you were right. Secondly, some bankers say that in consumer credit and in housing, already default rates are increasing. Which means that if we had not done that, now the proof is there that there was some sort of excess lending. But everything seems now to be in a reasonable framework. At least that system has been sensitised in a fairly timely fashion.

Would it, therefore, be fair to say that except for that one liquidity issue, you are satisfied with the situation today

Yes, on todays situation, by and large, everything is going more or less to expectation, except the liquidity issue.

Experts feel, given the global situation, theres only so much RBI can do to curb excessive inflows. Do you think youll have to come up with newer, innovative ways of doing this

The experts who have been making this suggestion, that we may not be able to handle this, have been doing so for the past four-five years (smiles). Having heard the suggestion, we have also been reacting dynamically to global dynamics and have produced reasonably acceptable policy outcomes. Let us hope we will try to be active. In fact, there is an impossible trinity. You can say, 'an impossible trinity is impossible. Whatever you do is of no use'. Or you can say, 'the impossible trinity may be impossible, but that is a given fact of life for me'.

So, therefore, how do you manage so that there will be a reasonably good outcome. I am now practising the second formulation: an impossible trinity, even if impossible, is the mandate. If there is an impossible mandate also, I have to produce reasonable results. I think we have produced reasonable results. Our job is to function in the policy framework given by the national government.

On the PNs side, Sebi has taken some strong steps. Do you feel vindicated that your stand on PNs has virtually been accepted

(Laughs loudly) Why dont you have your coffee!