The Reserve Bank of India has reduced the policy repo rate under the liquidity adjustment facility (LAF) by 25 basis points from 7.75 per cent to 7.50 per cent in line with broader consensus of the markets. The central bank has left the Cash Reserve Ratio (CRR) unchanged at 4 per cent.
Consequently, the reverse repo rate stands adjusted to 6.5 per cent and the marginal standing facility (MSF) rate and the Bank Rate to 8.5 per cent. In the policy statement, the RBI remains hawkish and re-established the concerns on the stability of the economy. Even the economists are mixed on their prediction for a possible cut in its next policy in May.
Leading bankers say that they would wait for the current financial year to end to take a call on the monetary transmission. “We need more clarity on the liquidity front; so we would take a decision on reducing our lending rate in mid-April,” said SS Mundra, CMD of Bank of Baroda.
"Today with the announcement of policy there is a certain direction which is visible to us and I don't see any immediate action on the transmission or so. RBI Governor has also mentioned that the liquidity will be maintained by way of open market operations (OMO). I think it would be possible to take a more realistic decision at that point of time," he added.
Banks have been borrowing heavily from the RBI due to the advance tax payments. As the government’s cash balances with the Reserve Bank are persisting at a higher-than-normal level, the liquidity deficit, as reflected by the net drawals by banks under the liquidity adjustment facility (LAF), has remained above the indicative comfort zone of the central bank.
Since February, the RBI has made open market purchases of Rs 20,000 crore.
The central bank said it would continue to actively manage liquidity through various instruments, including open market operations.
"After the last policy announcements, many reduced their lending rate, but such reduction always comes with a lag. So immediate transmission may not be possible, we may have to wait for a month or two. It will be difficult to announce any reduction in base rate before March. We have not seen any reduction in the cost of deposits, it is a significant bother," said VR Iyer, CMD, Bank of India.
Other public sector banks (PSB) such as State Bank of India and Vijaya Bank also said that the monetary transmission at the current juncture looks very difficult.
Upendra Kamath, CMD of Vijaya Bank, said that the key for industry is for lending rates by banks to come down but this would happen only when banks are comfortable with deposits and deposit rates have to come down.
Bank deposits are growing at around 12.7 per cent while credit growth was 16 per cent leaving with credit deposit ratios at a high of 78 per cent, he added.
Diwakar Gupta, MD and CFO of State Bank of India, said that there is no immediate benefit of a sizeable liquidity infusion or bottom-line gain accruing to banks through a 25 bps repo rate cut. This means that the monetary transmission through a lending rate cut to borrowers is difficult.
Gupta said a cut in the cash reserve ratio (CRR) would be more desirable for passing lower rates on to customers, particularly because the economy is seeing a slowdown. However, he said with the inflationary risks still prevalent the RBI’s stand is understandable.
Recently, the SBI said that it was expecting 19-20 per cent credit growth in the current fiscal. Given that the financial year is coming to a close apart from the volatility in the borrowings of oil marketing companies, a further spurt in loan growth cannot be ruled out, he added.
According to economists, even as interest rate easing is necessary to kick-start investment in the economy, it is not the sufficient condition. “On the side of liquidity management, we are happy to see no change in the CRR as room to reduce the CRR is getting extremely limited. On the basis of the above understanding, we pencil in just another 25 bps cut in the Repo rate by the RBI on May 3,” said Indranil Pan, Chief Economist, Kotak Mahindra Bank.
Since there is a downward bias for the policy rates, the heavy lifting has to come from the government on a number of things including regulatory bottle necks, said the economists.
The bond market and the stock market remained almost flat soon after the policy announcement. However, stocks tanked further immediately after the announcement that the regional political party DMK withdrew its support from the UPA-led central government. Sensex, the 30-stock benchmark index of the Bombay Stock Exchange, closed down 1.48 per cent at 19008.
Since, the transmission looks unlikely by the bankers, the non-banking finance companies (NBFCs), which are heavily dependent on the bank funding, are unlikely to reduce the lending rates as well.
Sanjiv Bajaj, MD, Bajaj Finserv said, “`it is our responsibility to reduce the lending rates. But a large part of our borrowings are from the banks and hence they have to reduce the rates first. After the last policy announcement, we have reduced our lending rates by 20 bps’’.
George Alexander Muthoot, Managing Director, Muthoot Finance Ltd, said `` The two rate cuts in quick succession indicate the cautiously optimistic view of the RBI and though inflation is a persistent concern, the so called myopic view seems to be fading and we believe further rate cuts are on the way.”
The Confederation of Indian Industry (CII) said it was hoping that the RBI would go ahead with a 50 bps reduction in the repo rate to make a significant impact on investor sentiment.
CII's president, Adi Godrej said, “the government has taken a number of measures over the last six months, including through the Union Budget to reign in the fiscal deficit. Core inflation has also been moderating and the conditions are conducive for the RBI to go in for the reduction in interest rate. With weakening of global commodity prices including petroleum the present conditions present that opportunity to the RBI, since one of the key concerns in the past few months has been the impact of a rate cut on the increasing current account deficit”.
The CII is hopeful that at the Annual Monetary Policy announcement due in six weeks time, the RBI would undertake a more aggressive rate cut to give growth a big boost, he said.
RBI guidance
Notwithstanding the moderation in non-food manufactured products inflation, headline inflation is expected to be range-bound around current levels over 2013-14 in view of sectoral demand-supply imbalances, the ongoing corrections in administered prices and their second-round effects.
In addition, elevated food prices, including pressures stemming from MSP increases, and the wedge between wholesale and retail inflation have adverse implications for inflation expectations.
Risks on account of the CAD remain significant, notwithstanding likely improvement in Q4 over an expected sharp deterioration in Q3 of 2012-13. Accordingly, even as the policy stance emphasises addressing the growth risks, headroom for further monetary easing remains quite limited.
(Edited by Prem Udayabhanu)
