Reserve Bank of India (RBI) governor Yaga Venugopal Reddy on Tuesday said financial stability, along with growth and price stability, are the three most important objectives of the bank’s monetary policy.
He also justified the hikes in the reserves that banks have to keep with RBI as an active tool for liquidity management.
Reddy spoke about these in an interaction with the media at the central bank’s headquarters on Mint Road. Edited excerpts:
Why have you kept the key policy rates unchanged?
As policymakers, we are not in a position to chalk out a predetermined framework of the policy, given the dynamics of the financial market.
But priorities change from time to time and we have shown willingness to use various monetary instruments as we find them appropriate. Policy outcomes in the past speak for themselves.
Going by the outcome of the past action, we did not feel the need to change the key policy rates. You must compliment us on that! (laughs)
What’s the stance of the policy?
As I mentioned during the announcement of the monetary policy in April, the emphasis is on maintaining the balance between growth and stability. The domestic outlook is favourable now, but it is important to design a monetary policy that protects growth by contributing to stability.
Keeping in mind the recent developments in financial markets in India and potential uncertainties in global markets, our focus was to appropriately manage liquidity at the current juncture.
Why have you hiked the CRR and removed the Rs3,000 crore cap on the amount of excess cash banks could park with RBI?
The reserve ratio is an effective monetary tool and we have used it to manage liquidity. The issue is the removal of the Rs3,000 crore limit.
When we were reviewing the monetary policy framework, we were inclined to go towards a single benchmark. With the given monetary policy stance, the repo rate (a key short-term lending rate or the rate at which RBI injects liquidity) would have been the appropriate rate.
In a way, the strategy was to de-emphasize the reverse repo rate (the rate at which RBI absorbs liquidity).
And, so, we had imposed a ceiling. Then we found that the way the market was moving, it was imparting greater volatility into the system than we had anticipated. There are several reasons for this, including capital flows, which were rather unprecedented .
In such a situation, we reviewed the position and concluded that given the current condition and the possibilities in the near future, we should revert back to activating both the repo and the reverse repo windows.
But having done so, please remember this is not a permanent arrangement. We still retain the discretion to re-impose a ceiling as and when it is appropriate. This is of utmost importance in the context of liquidity management.
Banks’ statutory liquidity ratio (SLR) can be brought down, but you are not doing so. Banks are still required to invest 25% of their deposits in government bonds.
We are of the opinion that the SLR prescription is adequate as of now and we do not have any immediate plan to revise it.
What is your stance on inflation?
Although I would concede that inflation is out of the newspaper headlines (laughs), I do not think that it is out of the minds of people. We believe that there is a fear of high inflation in the minds of the general public. Our priorities will, therefore, be focused on containing domestic inflation and inflation expectations.
What is your approach to currency management?
Our emphasis is on stability. But stability comes with a price tag that has to be borne by the government, the central bank and the banking system itself. From our perspective, I can only say that we are not looking at any target in exchange rate; we are only looking at volatility and trying to contain it as best we can.
The exchange rate is relevant not just for exporters. An exchange rate is important as a part of the important price elements, which impacts not only the exporters, importers and corporations, but also common people who are sending their children abroad for education.
We have to recognize that the exchange rate is relevant in the broader context and impacts the economy as a whole.