First Published: Tue, Jun 03 2014. 11 12 AM IST
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RBI holds repo rates, puts onus on Arun Jaitley’s finance ministry

The central bank says it may ease monetary policy if inflation slows faster than anticipated
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RBI holds repo rates, puts onus on Arun Jaitley’s finance ministry
RBI governor Raghuram Rajan’s move to hold rates implicitly suggested that the central bank was buying into commitment finance minister Arun Jaitley made last week to pursue fiscal prudence. Photo: Abhijit Bhatlekar/Mint
Mumbai: The Reserve Bank of India (RBI) on Tuesday struck a dovish tone on lending rates and eased bank lending, implicitly suggesting that it was buying into the commitment finance minister Arun Jaitley made last week to pursue fiscal prudence. In its policy statement, RBI said that it may ease monetary policy if inflation slows faster than anticipated.
Accordingly, the central bank kept the repo rate, at which it lends short-term funds to banks, at 8%, having raised it by 75 basis points since Rajan took office in September to tame rising prices. One basis point is 0.01%.
Later in the evening Jaitley put out a statement on social media endorsing the stance of RBI’s credit policy.
“It (RBI) has followed a calibrated approach aimed in the direction of balancing between growth and inflation.”
In the run-up to the second bi-monthly credit policy, the trade-off between inflation and growth had become the central focus. Frequent rate hikes aimed at squeezing demand and thereby curbing inflation had begun to impact investment levels in the economy—for the first time since 2000-01 the investment rate contracted by 0.1% in 2013-14.
“It is a priority for the Government to maintain a balance between growth and inflation. The Government is also concerned with restarting the investment cycle and moving towards higher growth and employment generation. We would like to address the problem of inflation through supply side measures particularly in relation to food inflation. Fiscal consolidation is a priority for the Government,” Jaitley added.
The apex bank kept the cash reserve ratio, or the portion of deposits banks need to keep with the central bank on which they earn no interest, unchanged at 4%. It lowered the proportion of deposits banks must invest in government bonds to 22.5% from 23% with effect from 14 June.
RBI said it remained committed to keeping the economy on a disinflationary path, taking inflation measured by the Consumer Price Index to 8% by January 2015 and 6% by January 2016.
“If the economy stays on this course, further policy tightening will not be warranted. On the other hand, if disinflation, adjusting for base effects, is faster than currently anticipated, it will provide headroom for an easing of the policy stance,” the central bank said.
Prime Minister Narendra Modi, who steered the Bharatiya Janata Party and its allies to the biggest election victory in 30 years, has spurred optimism that he will take measures to boost economic growth that lingered near a decade-low at 4.7% in the year ended 31 March, marginally faster than the 4.5% growth in the previous year.
Industrialists and some economists, including former RBI governor Bimal Jalan, have said the central bank’s priority should be to boost growth and spur investments rather than tame inflation, arguing that the Modi government’s ascendance had created a positive investment climate.
The central bank is now “on hold” with “dovish signals”, Frederic Neumann and Prithviraj Srinivas, economists at HSBC Global Research, wrote in a research note.
Whether RBI’s current dovish tone translates into a subsequent rate cut will depend on cues from the Union budget in July and the June-to-September monsoon that is the main source of irrigation for a vast majority of the nation’s farmers.
The uncertainty over monsoon rain that is due to begin in June may, however, pose a bigger risk to inflation and economic growth, said D.K. Joshi, chief economist at Crisil Ltd, the Indian unit of global rating agency Standard and Poor’s.
Monsoon rainfall may be less than normal this year. Weather offices in India and Australia have predicted that the odds of the El Nino weather pattern emerging have increased.
The phenomenon causes droughts in South Asia. Lower rainfall in India may crimp farm output, spur inflation and delay a rebound in economic growth.
“RBI would need some clarity on how the monsoon will pan out and what the Union budget has in store, before taking a call on rate action,” Joshi said. Industry lobby groups, however, said a cut in interest rates would have encouraged businesses to invest.
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“Federation of Indian Chambers of Commerce and Industries (Ficci) feels that an accommodative stance would have given better encouragement to investments amid early positive sentiments after the new government took charge and is pursuing a growth agenda,” said Sidharth Birla, president, Ficci.
RBI, which retained its GDP growth target for the year to 31 March in the range of 5-6%, said clearing policy logjams was positive for reviving growth.
“Easing of domestic supply bottlenecks and progress in the implementation of stalled projects should brighten the outlook for both manufacturing and services,” RBI said.
Also, the prospects for exports should improve further with world trade gathering momentum, it said.
Still, the cut in SLR, the first since August 2012, may not be very effective in easing liquidity and resulting in higher credit growth, since most banks have excess SLR holdings, said Madan Sabnavis, chief economist at Credit Analysis and Research Ltd, a rating company. Most banks have SLR holding in the range of 27-29%, according to bankers.
The apex bank reduced the liquidity provided under the export credit refinance (ECR) facility from 50% of eligible export credit outstanding to 32% with immediate effect. RBI also introduced a special term repo facility of 0.25% of net demand and time liabilities to compensate fully for the reduction in access to liquidity under ECR with immediate effect.
The reduction in ECR and compensating the move by the introduction of a special term repo is aimed at making term repo an important tool for market borrowing, in line with the recommendations of a panel headed by RBI deputy governor Urjit Patel.
At the moment, the central bank is more worried about tackling inflation, which is necessary for sustaining economic growth in the long-term, some economists said.
RBI is likely to leave the repo rate untouched in its August policy as well, said Naresh Takkar, managing director and chief executive officer of Icra Ltd.
“Even though the RBI’s policy stance appears more “sanguine” relative to the April review… we believe that the RBI may leave the repo rate unchanged in its August policy,” Takkar said. “Accordingly, a rate easing cycle is unlikely to commence before the second half of the current fiscal.”
Inflation, based on wholesale prices, eased to 5.2% in April compared with 5.7% in March. But retail inflation, the key measure of prices for the central bank to decide on the policy rate action, quickened to 8.59% in April from 8.31% in March, primarily driven by food prices.
The yield on the 10-year benchmark bond rose to 8.709% from 8.657% before the policy. Bond prices and yields move in opposite directions.
The rupee weakened by 0.01% to 59.17 against the dollar as compared with 59.20 earlier. The local currency had opened at 59.175 a dollar compared with its Monday’s close of 59.1563 a dollar. It closed at 59.39, down 0.39% from its previous close of 59.16.
The Reserve Bank of India on Tuesday announced an SLR cut by 50 bps while keeping repo rate unchanged. Mint’s Tamal Bandyopadhyay analyse the policy statement.
The BSE benchmark Sensex rose by 0.37% to 24,774.98 points shortly after the announcement from 24,749.57 points before the announcement.
Stock markets ended at a record closing high and bond yields fell as the market cheered RBI’s dovish stance. The yield on India’s 10-year benchmark bond ended at 8.599%, 7 basis points lower compared with Monday’s close of 8.665%. India’s benchmark Sensex ended at 24,858.59 points on BSE, up 0.7% from its previous close, while the broader index, Nifty, ended at 7415.85, up 0.72%, from the previous close. However, BSE Bankex, the index of major bank stocks on BSE, ended at 17478.99, down 0.18% from its last close.
Remya Nair in New Delhi contributed to this story.
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