Another hike in cash reserve ratio cannot be ruled out, say analysts

Another hike in cash reserve ratio cannot be ruled out, say analysts
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First Published: Thu, Aug 02 2007. 12 37 AM IST

Policymaker: Reserve Bank of India governor Y.V. Reddy has already surprised analysts three times since December with unscheduled policy changes. The monetary policy will be reviewed next on 30 Octobe
Policymaker: Reserve Bank of India governor Y.V. Reddy has already surprised analysts three times since December with unscheduled policy changes. The monetary policy will be reviewed next on 30 Octobe
Updated: Thu, Aug 02 2007. 12 37 AM IST
New Delhi: The Reserve Bank of India (RBI) will probably restrict funds available for lenders for a fourth time this year to curb loan growth and contain inflation.
RBI may order commercial banks to set aside more deposits, eight of 13 analysts said in a Bloomberg survey after the Mumbai-based central bank lifted its cash reserve ratio by a half point to 7% on Tuesday. Seven of those surveyed expect a rise to 7.5%.
Indian banks are awash with cash as the government spends more to sustain record economic expansion. The unprecedented growth is enticing overseas investors keen to take advantage of a stock market that’s tripled in three years. The central bank is concerned excess funds with commercial lenders will drive interest rates lower, spawn a credit boom and spur inflation.
“There is an evident tug-of-war between boosting growth and managing the associated challenges of demand-side inflationary pressures,” said Shuchita Mehta, an economist at Standard Chartered Bank in Mumbai. “The risk of further cash reserve ratio hikes remains.”
Policymaker: Reserve Bank of India governor Y.V. Reddy has already surprised analysts three times since December with unscheduled policy changes. The monetary policy will be reviewed next on 30 October. Bloomberg Photo (Prashanth Vishwanathan)
India’s 10-year government bonds fell for a second day, pushing yields up by 3 basis points to 7.87%, the highest in two weeks. The benchmark stock index fell 3.96% to 14,935.77 at close in Mumbai, while the rupee declined 0.4% to 40.525 against the dollar.
Besides raising the cash reserve ratio, RBI has increased its key policy rates by 2.25 percentage points since October 2004 to cool loan growth and inflation.
As a result, wholesale prices in India rose 4.41% in the week ended 14 July from a year earlier, staying below the central bank’s 5% inflation target ceiling for the eighth straight week. Loans to consumers and companies grew 24.3% in the year to 6 July, compared with a 31% gain in the same period last year, the central bank had said on 27 July.
The decision to force banks Tuesday to set aside more cash to cover deposits won’t leave them with less funds to lend, said Om Prakash Bhatt, chairman of State Bank of India, the nation’s biggest lender.
The move will absorb Rs16,000 crore ($4 billion), or only about 40% of the current surplus cash with banks, estimates Rajeev Malik, senior economist at JPMorgan Chase & Co. in Singapore.
The monetary policy will be reviewed next on 30 October, though central bank governor Yaga Venugopal Reddy has surprised analysts three times since December with unscheduled policy changes.
Prime Minister Manmohan Singh’s government is spending more on roads, ports and irrigation to sustain gross domestic product (GDP) growth of more than 9% for the third year in a row in the current fiscal year ending 31 March.
One measure to assess the rise in state spending is the cash balance that the government maintains with the central bank. The balance, which stood at a surplus of Rs65,580 crore in December, declined to a debit of Rs7,750 crore in May, a “turnaround of Rs73,330 crore in a span of five months,” the central bank said in its report on Tuesday.
“With Indian GDP growth tracking about 9% this year, and with high interest rates, capital inflows are likely to remain robust,” said Sonal Varma, an economist at Lehman Brothers Securities Pvt. Ltd in Mumbai. Overseas funds have bought a record $10.4 billion (Rs42,224 crore) of stocks and bonds this year.
The central bank had slowed dollar purchases in March and April to help strengthen the rupee, and ease inflation from the two-year high it touched in January. Since June, it has stepped up dollar purchases, after inflation eased, to prevent the local currency advancing from a nine-year high and hurting exports. In the process, it is injecting rupees faster than it could mop up.
The rupee has gained 9.5% this year to 40.37 against the dollar, making it the best performer among the 10 most- traded Asian currencies.
“The central bank is responding like a firefighter in dealing with strong capital inflows, and its continued intervention is possibly on the government’s suggestion to prevent the rupee from breaking below 40,” said JPMorgan’s Malik. “The money market is partly reflecting the result of the still-opaque thinking on capital flows and the rupee—the government continues to encourage capital flows, but does not desire further rupee appreciation.”
Cash from government spending and the central bank’s intervention have kept call market rates at near 0% for the past three weeks.
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First Published: Thu, Aug 02 2007. 12 37 AM IST