RBI defies pressure to keep repo steady,injects more liquidity

Hints at a rate cut in 4th quarter; Sensex plunges by 204 points to close at 18,430.85

The Reserve Bank of India delivered a tepid credit policy that did nothing for growth but kept inflation concerns centre stage. Banks took the cue from the disappointed note in the finance minister P Chidambarams comments and said they were not planning to cut rates unless the RBI delivered on softer benchmark interest rates,soon. Governor D Subbarao also ruled out moving on issuing licences for new banks till the Banking Laws Amendment Bill sails through Parliament.

The central bank on Tuesday kept the repo rate the rate at which banks borrow from the RBI unchanged at 8 per cent but slashed the cash reserve ratio CRR for them by 25 basis points to inject more liquidity into the system. CRR is the percentage of the banks deposit they have to park compulsorily with the RBI. The cautious reaction is despite the series of fiscal measures taken by the government comes and on top of an acknowledgement that the GDP growth rate for the economy will fall to 5.8 per cent in 2012-13 from its April estimate of 6.5 per cent. RBI has estimated that since inflation will rise to 7.5 per cent by the end of this fiscal the combined impact of the two on the economy will be about the same as it obtained at the beginning of the year. Subbarao said he expected inflation at its peak could even reach 8 per cent.

The Governor however held out an olive branch that a rate cut could come about in the fourth quarter January-March of 2012-13,provided the projected inflation trajectory which indicates a rise in inflation over the next few months before easing in the last quarter. The RBIs cautious approach disappointed Dalal Street with the BSE Sensex plunging by over 204 points to close at 18,430.85.

But most bank economists said the cautious note was sound. Kotak Mahindra Bank chief economist Indranil Pan said the policy clearly indicates a clarity of thought at RBI that unless twin deficit risks come off significantly,it will continue to be difficult for it to bring down lending rates. Yes Bank chief economist Shubhada Rao said RBI has shifted its stance and signalled monetary easing in the next quarter.

The RBI retained its current stance that managing inflation and inflation expectations must remain the primary focus of monetary policy. While there are risks to this trajectory,the baseline scenario suggests a reasonable likelihood of further policy easing in the fourth quarter of this fiscal year, Subbarao said. The CRR cut will release Rs 17,500 crore to the system,augmenting the lendable resources of the banks.

Since April 2012,the RBIs policy stance has sought to balance the growth-inflation dynamic through calibrated easing. In conjunction with fiscal and other measures recently announced by the government,the RBIs monetary policy stance should work towards arresting the loss of growth momentum over the next few months, Subbarao said.

The RBI Governor said Mondays statement by the finance minister reaffirming commitment to fiscal consolidation will open up space for monetary policy to restrain inflation and support growth.