The Reserve Bank of India chose to pause its monetary relaxations to judge the impact of the Rs 1,85,000-crore liquidity it has pumped into the economy in the last fortnight, even as it juggled between inflation and growth concerns.
Despite keeping the key rates unchanged in his maiden mid-term review of annual policy for 2008-09 on Friday, Governor Duvvuri Subbarao said RBI had given signals on interest rates and it was for the banks to cut rates. ?We signal interest rates. It is for the banks to take a decision on what their interest rates should be?, he said.
But banks are still divided on a rate cut. Uco Bank chairman SK Goel said, ?there is possibility of interest rates heading downward?, but Yes Bank MD & CEO Rana Kapoor said, ?more relaxations are warranted, going forward, given that this is the busy season.?
Highlighting the downside risks to growth, RBI lowered the growth forecast to between 7.5 % and 8 % for the year, from 8 % estimated in July. But it kept the inflation estimate unchanged at 7 % by March 31, 2009. The current weekly rate is 11.07%. Going ahead, ?It will be the Reserve Bank?s endeavour to bring down inflation to a tolerable level of below 5 % at the earliest, while aiming for convergence with the global average inflation of around 3% over the medium term.?
The governor?s game plan hinges on the expectation that inflation will ease with declining global commodity prices, allowing him to keep money supply to the banking system growing at 17%. This will ensure adequate bank credit to the industrial sector at competitive rates despite international credit drying up. The mid-term policy said non-food bank credit to the economy was growing at 29%, way above RBI-projected 20%. A risk in this scenario, the policy pointed out, was the high government borrowing that could push deficits higher.
Releasing the policy, Subbarao said RBI would keep a close vigil on the entire financial system to prevent pressures from building up in the financial markets. This will include enhancing liquidity if pressures persist. ?This could also mean curtailing liquidity if the recent liquidity-easing measures are seen to have injected excess liquidity, thereby, stoking inflationary pressures.?
In the last three weeks, for the first time in four years, the central bank has reduced the repo rate (RBI?s lending rate for banks) by 100 basis points to 8%, slashed the cash reserve ratio (the reserve, banks have to keep with the central bank) by 250 basis points and relaxed the collateral requirements to borrow from it to finance money market mutual funds.
The measures taken since mid-September 2008 have assuaged liquidity stress in the financial markets, caused by adverse external developments, added Subbarao.
?In the context of the uncertain and unsettled global situation and its indirect impact on the domestic economy in general, and financial markets in particular, RBI would closely and continuously monitor the situation and respond swiftly?, the policy noted.
Supporting RBI, finance minister P Chidambaram later said, ?The RBI endorses our assessment that our financial system is strong and healthy and our economic fundamentals are strong.?
Among other measures, RBI expects to launch interest rate futures in early 2009 and issue floating rate bonds in the government securities market.
