Mumbai: The Reserve Bank of India (RBI) has stepped up its fight against inflation, which was at 6.46% for the week ended 17 March, unchanged from a week before, by raising a key short-term loan rate by 0.25% to 7.75%. This is the fifth increase in this rate in financial year 2006-07, which comes to an end today.
The central bank also raised the cash balances that commercial banks need to maintain with it (also called the cash reserve ratio) by half a percentage point to 6.5% in two stages effective 14 April and 28 April. This will reduce the amount banks have at their disposal to lend by Rs15,500 crore. Saumitra Chaudhuri, a member of the Prime Minister’s economic advisory council, termed the central bank’s move “a simple reaction to unchecked credit expansion, especially in risky areas.”
In yet another measure to reduce money supply, RBI announced that it would auction three-year bonds to raise Rs6,000 crore on 4 April. The auction, part of the market stabilization scheme, falls outside the government’s annual borrowing programme; the scheme allows RBI to auction bonds and short-term treasury bills to drain liquidity from the system.
Senior bankers said the 30 March action reduces the chances of the bank raising the interest rate on 24 April when it announces the annual monetary policy for 2007-08.
Wholesale inflation continues to remain at around 6.5%, well ahead of RBI’s estimate of an average of 5-5.5% for the year. And the year-on-year growth in money supply up to 16 March was 22%, against an estimated 15% and last year’s growth of 16.9%. Apart from reducing the amount of money available for lending, the latest moves of the central bank, could also force banks to raise their interest rate on loans.
“Had it not gone for these measures, liquidity would have returned to the system in April when the government starts its spending. Banks will possibly have no choice but to go slow in their lending activities (now),” said Nitin Jain, head of fixed income securities at ICICI Securities Primary Dealership Ltd, which sells government bonds.
State Bank of India Ltd managing director Yogesh Agarwal said his bank “would study the implications of RBI’s measures and take appropriate decisions”.
A.K. Khandelwal, CEO of Bank of Baroda Ltd, a public sector bank, said the RBI measures clearly indicates that the regulator wants commercial banks to curb lending activities. “We have already curbed lending and will to even be more vigilant now,” he added.
A banking analyst with a foreign brokerage who did not wish to be identified said banks would raise their lending rates but not immediately. He pointed out that borrowings are usually low at this time of the year (the beginning of the financial year). The lending programmes of banks usually pick-up in the latter half of the financial year.
The announcements were made after the stock and bond markets closed for trading for the week. The bond markets are also closed on Monday. Bond dealers expect yield on 10-year benchmark paper rise on Tuesday when the market opens. However, with RBI’s latest inflation-fighting measures (and another to cut the interest rate paid on cash balances kept with it by banks to 0.5% from 1%) likely to affect the profitability of banks, bank stocks could take a beating when the stock markets open for trading on Monday.
“RBI probably delayed its action by a week to protect banks’ balance sheets for financial year ending 31 March. Had it made these announcements a week earlier, banks would have been required to make provisions to take care of depreciation in their bond portfolio. Now, the impact on the balance sheet will be felt next year,” said another banking analyst who did not wish to be identified.
Banks said they were expecting RBI bank to act the way it did. “Liquidity has started easing in the system and with government spending beginning in the new financial year, it would have been a very different scene next week,” said the head of treasury of a large private bank, based in Mumbai, on condition of anonymity.
Paromita Shastri contributed to this story.