RBI gives thumbs up to reforms but holds rate; cuts CRR

The Reserve Bank of India today did not give in to the clamour for a policy rate cut but signalled an ease in its stance by affecting an unexpected cut in banks’ cash reserve ratio by 25 basis points,the share of deposits banks must keep with the central bank, to 4.50 percent, releasing Rs 17,000 crore into the financial system.

The central bank left its policy rate-repo rate at which it lends funds to banks-unchanged at 8 percent. The CRR cut will be effective 22 September.

“Monetary policy also has an important role in supporting the growth revival. However, in the current situation, persistent inflationary pressures alongside risks emerging from twin deficits - current account deficit and fiscal deficit - constrain a stronger response of monetary policy to growth risks,” it said in a press release.

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It, however, took note of the government’s efforts to rein in fiscal and current account deficits. “Mitigating the growth risks and taking the economy to a higher sustainable growth trajectory requires concerted policy action across a range of domains, a process to which last week’s actions ( government reform policies) made a significant contribution,” RBI said in the release today, adding that it would result in favourable growth-inflation dynamics.

On the global front, the RBI expressed concerns that the measures taken by ECB and the US Fed will exert pressure on global asset prices, especially commodity prices.

On the recent reform steps taken by the government it said the measures have started reversing the sentiment.

“The Government undertook long anticipated measures towards fiscal consolidation by reducing fuel subsidies and selling stakes in public enterprises. Further, steps taken to increase foreign direct investment (FDI) should contribute to both greater capital inflows and, over the long run, higher productivity, particularly in the food supply chain,” it said.

A Reuters poll had projected that the central bank will retain its policy rate at 8 percent.

The RBI, however, expressed its concerns about the much delayed reforms taken up by the government.

C Rangarajan, the chairman of the prime minister’s economic advisory council, said the RBI has taken a cautionary stance because of the inflation levels but added that a CRR cut is more ‘potent’ in reducing lending rates. He added that the central bank’s further actions will depend on whether inflation declines or not.

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“As welcome as the recent hike in diesel prices/rationalisation of LPG subsidy has been, the pass-through to administered prices remains incomplete.,” it said in a press release.

State Bank ofIndia, the country’s largest lender, said its asset liability committee will take a decision on lending rates. Its Chairman Pratip Choudhry has been arguing for a CRR cut. He had said that a cut in CRR will free up more funds for lending and in turn result in a cut in lending rates. He told CNBC-TV18 today that the cut will free up Rs 200 crore for the bank.

Industry captains and the market have been calling for a cut in the interest rates after the country’s industrial output grew just about 0.1 percent and the government took up a few long-pending reform steps.

The government on Friday allowed FDI in a few sectors, most importantly retail, which had been a political hot potato for it, in a bid to ramp up its image of a paralysed government. However, the opposition to the move is building up with Mamata Bannerjeee leading the revolt from the ruling UPA’s rank and the BJP from the Opposition.

For the full release of the RBI, click here.