Volatility May Come Down On Declining Call Rates

Updated: Apr 30 2002, 05:30am hrs
RBI’s Credit Policy for 2002-03 is along expected lines and contains no surprises. With the abundant liquidity in the money market, a bank rate cut would have forced banks to cut lending rates; yet few banks have the ability to reduce deposit rates further. Interest spreads have already narrowed and any further reduction in lending rates would have had an adverse impact upon the profitability of banks.

Although, there is pressure from industry for a further reduction in the Bank rate by 50 basis points, any such reduction would actually have only a nominal impact on industry. Also, banks know, from experience, how difficult it is to increase interest rates even when liquidity tightens.

The CRR cut of 50 bps from June 15, 2002 will release about Rs 4,000 crore for onward lending or investment. All the same, the large market borrowings programme of the Government will quite easily absorb these available funds.

The impact of this CRR cut on the profitability of banks will be negligible, though positive.

The projected growth of 6.0 - 6.5 per cent in real GDP indicates that industrial revival is in the offing.

This, coupled with signs of economic recovery in the US (Q1 GDP growth of 5.8 per cent), will add to the overall business confidence in the Indian economy.

It is thus expected that the second half of the year will see a substantial pick-up in the demand for credit.

The Credit Policy encourages housing finance by banks with the reduction in risk weight to 50 per cent. This, together with the increasing thrust by banks towards retail lending, certainly spells good news for the housing sector.

In its Credit Policy, RBI has introduced a major reform in the call money market.

A ceiling equivalent to the borrowing bank’s net owned funds or two per cent of deposits (whichever is higher) is proposed on each bank’s daily borrowings. This will reduce access to call funds for banks that rely heavily on the call money market. Consequently, the call rates are likely to decline, thus, reducing volatility.