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RBI raises key interest rates by 25 bps

RBI raises key interest rates by 25 bps
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First Published: Tue, Jan 25 2011. 05 41 PM IST
Updated: Tue, Jan 25 2011. 05 41 PM IST
Mumbai: The Reserve Bank of India (RBI) on Tuesday raised its key policy rates by 0.25% each to fight spiraling inflation.
Following the rate hike, the repo and reverse repo of the central bank, or the rate at which it injects or withdraws liquidity from the markets, stands at 6.5% and 5.5%, respectively.
The hike was in line with what economists were expecting even as RBI’s macroeconomic policy review on Monday indicated that the central bank would go for a rate hike.
Nine out of the ten analysts and bankers Mint talked to ahead of Tuesday’s policy announcement expected a 25 basis points hike in RBI’s key rates while one said it could be in the range of 25-50 basis points. One basis point is one hundredth of a percentage point.
RBI expects the rate hike to contain the spillover from rise in food and fuel prices to generalised inflation and rein in rising inflationary expectations among investors. The rate hike will “be moderate enough not to disrupt growth,” the policy statement said.
It also raised its inflation projection to 7% from 5.5% “considering the increase that has already occurred and the emerging domestic and external scenario.”
“Today’s move clearly shows that RBI has re-launched its attack on inflation given its persistence,” said Rupa Rege Nitsure, chief economist of Bank of Baroda. She expects another 0.25% hike in policy rates in February, “as next year there will be limited room because of the expected large sized government borrowing programme.”
While retaining its growth forecast intact at 8.5% for fiscal 2011, RBI warned that the “current growth and inflation trends warrant persistence with the anti-inflationary monetary stance.”
The yield on the most-traded 11-year paper was at 8.2431% before the policy announcement, it remained almost flat at 8.2513% after the announcement, as the market had factored in a 25 basis point hike already.
Sensex, the Bombay Stock Exchange’s bellwether equity index, gained 0.39% to 19225.81 points and Banking index, Bankex fell 0.65% to 12,563.83 points at the time of filing this report.
RBI also extended the additional liquidity support for banks to till 8 April. Banks can borrow an additional 1% of their deposit base, or about Rs 50,000 crore, from the central bank. The facility was to end on 28 January.
The average daily net injection of liquidity through the liquidity adjustment facility increased from around Rs 62,000 crore in October to around Rs 99,000 crore in November and further to around Rs1,20,000 crore in December, with the peak injection of around Rs1,71,000 crore on 22 December 2010, RBI noted.
Going forward, RBI expects the frictional liquidity shortage to ease as government balances adjust to the expenditure schedule. “However, banks need to focus on the underlying structural cause of liquidity tightness arising out of the gap between the credit and deposit growth rates,” the statement said.
RBI said for the fiscal consolidation process to be credible and effective, it is important that the composition and quality of expenditure improves.
“Any slippage in the fiscal consolidation process at this stage may render the process of inflation management even harder,” the statement added.
Inflation zoomed to 8.43% in December, up from 7.48% in November on account of higher food and fuel prices, especially that of vegetables and other essential commodities. The October inflation was further revised upwards to 9.12% from 8.6%, making the average inflation for the year at 9.4%, much above the Reserve bank’s projection. Adding to the woes, fuel inflation rose 11.2% in December, pushing wholesale price inflation higher.
Overall, the RBI has upped its key short-term rates six times in 2010 to hold off the skyrocketing prices and as part of its “normalization process”. But the monetary actions are yet to show results to bring down the spiraling food prices.
The central bank had gone for a series of rate cuts since late 2008, to support a sagging economic growth, when the global financial crisis broke out following the collapse of Lehman Brothers Holdings Inc. However, with the recovery returning to global markets, the central bank started reverting to its normal policy rates starting in October, 2009.
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First Published: Tue, Jan 25 2011. 05 41 PM IST