The RBI policy focus on inflation control remains unchanged as can be seen from its mid-quarter policy review today, wherein, the central bank chose not to cut policy rates despite increasing pressure from the centre and industry. A cut in interest rates, according to the RBI, would further exacerbate inflation rather than push growth forward.
Key Monetary Measures
• Cash Reserve Ratio (CRR) of scheduled commercials banks remains unchanged at 4.75% of their net demand and time liabilities (NDTL)
• Repo rates unchanged at 8 percent
•Reverse repo rate unchanged at 7%
• Marginal Standing Facility (MSF) rate and the Bank rate unchanged at 9%
• Although, the RBI kept policy rates unchanged, it has addressed the liquidity situation in the banking system by way on an increase in the limit of export credit refinance of outstanding export credit of banks from 15% to 50 percent. This move could potentially increase liquidity in the banking system by Rs30000 crore billion, which is equivalent to a 50 bps cut in CRR. However, this is not free money and comes at a cost of the repo rate, said CARE Rating in a report today.
•The RBI states that the slowdown in the domestic economy is the consequence of various factors, chief among them being low investments and decline in industrial production. The central bank also asserts that the high interest rates on account of the tight monetary policy has only a relatively small role in the slackening economic growth, as the current real effective bank lending rates are estimated to be comparatively lower than the rates during the high growth period of 2003-08, thereby suggesting that there are other factors impacting growth.
On the global front, concerns over sustainable solutions to the euro area sovereign debt problems and the vulnerability of the banking sector has fuelled risk aversion, resulting in a slowing of capital flows which could adversely impact emerging and developing economies (EDE) such as India. Moreover, economic growth/ recovery has been weakening in the US and in EDE’s.
• Although, the weakness in global economic growth has led to a softening in commodity prices, there exists a possibility of another round of quantitative easing by the central banks of advanced economies in response to “shocks” which could reverse commodity prices. This would adversely impact price levels (inflation) and growth in import dependant countries such as India.
•Inflation in the country as shown by the WPI, after moderating from 10% in September 2011 to 7.7% in March,2012, has been moving up since the start of the current fiscal –from 7.2% in April to 7.6% in May, driven mainly by food and fuel prices. Food inflation would in the coming months be largely influenced by the monsoons. On the fuel front, although international crude oil prices have declined significantly, the depreciation in the Rupee has offset this decrease.
• The non-food manufactured products inflation or core inflation has registered a decline on the back of a decline in demand, thereby reflecting the desired effect of the RBI monetary tightening measures. Retail inflation i.e. Consumer price index (CPI) inflation has been on a steady rise from 8.8% in February ,2012 to 10.4% in April,2012.
• The CPI inflation excluding food and fuel too has been on a rise, thereby suggesting that the decline in core inflation in wholesale prices has not been transmitted to the retail level. The high inflation at the retail and wholesale level along with slowing growth highlights supply bottle necks and sticky inflation expectations. Inflation, thus continues to remain a major concern.
• To add to this, the inability to pass to consumers the prices of petroleum products has led to the burgeoning of the subsidy burden of the government, negatively impacting investments, both public and private. Increase in investments is critical for the economy.
• Liquidity conditions in the banking system are being pressured with the rate of growth in being faster rate than the growth in deposits. The RBI has been attempting to ease liquidity constraints, which have daily been over Rs 80,000 cr, through conduct of open market operations (OMO’s). To add to this, the apex bank has increased in this policy the limit on export credit refinance, which would release liquidity to the tune of Rs 30000 crore.