In his maiden monetary policy review, Reserve Bank of India (RBI) governor D. Subbarao has committed to use both conventional and unconventional monetary tools to “manage the challenge" that the central bank is currently facing.

For instance, he has not cut the statutory liquidity ratio (SLR), or banks’ investments in government bonds, but allowed them to hold a lower SLR portfolio for the time being.

Norms require banks to invest 25% of their deposits in government bonds and excess SLR holdings can be used as collaterals to get liquidity from RBI. So, if they are allowed to hold a lower SLR, commercial banks can get higher liquidity support from the central bank.

Similarly, Subbarao has opened a foreign exchange window for oil marketers from where they can buy dollars directly from RBI to meet the cost of crude oil imports. This will ease the pressure on the local currency as demand for the dollar will come down.

Besides, the RBI has cancelled two bond auctions—one of them three hours after the bids were submitted.

Finally, Subbarao also cut banks’ cash reserve ratio (CRR), or the portion of deposits that commercial banks need to keep with the central bank with a retrospective effect—something that has never happened in the regulator’s history.

But, his 29,523-word, 63-page mid-term review of the annual monetary policy is conventional at best and confusing at worst. The statement has two parts—a review of the annual monetary policy (20,655 words) and a review of developmental and regulatory policies (8,868 words).

The first part has three sections. The first, an assessment of macroeconomic developments, is divided into sub-sections such as domestic developments (5,637 words), external sectors (1,679 words), development in global economies (5,536 words) and overall assessment (4,082 words). The other sections are stance of the monetary policy (3,509 words) and monetary measures (212 words).

There is no surprise in the assessment of macroeconomic developments section. It talks about a near-normal monsoon, falling index of industrial production and sales and profits of Indian corporations, and sagging business confidence, besides the growth in bank deposits, credit, money supply and the state of affairs vis-à-vis liquidity, inflation and the government’s fiscal health.

The section on development in global economies graphically describes the slowdown in the US, Euro zone, Japan, China and the rest of Asia and how the global liquidity problem turned into a solvency problem, triggering a crisis of confidence in the financial markets.

Against this backdrop, the bailout packages offered by various governments and policy measures of central banks lend a perspective to the unprecedented crisis that the financial system across the globe is experiencing.

But one stumbles at the policy stance. Four days after cutting its policy rate by one percentage point and less than a fortnight after releasing Rs1 trillion into the system by cutting CRR, the monetary policy stance says, “Going forward, the Reserve Bank’s policy endeavour would be to modulate the monetary overhang generated by the sustained expansion of money supply…This is necessary in order to ensure that inflationary pressures are not fuelled and that the current stance of the monetary policy is not attenuated by expansionary monetary conditions."

It also reiterates its old stance of moderating of money supply growth to 17% (against 20.3%), deposit growth to 17.5% (against 21.6%) and credit growth to around 20% (against 29.4%). “Non-food credit has posted a growth of 29% on a year-on-year basis…This is well beyond projection of 20% for 2008-09. This higher rate of credit growth could possibly be due to the additional demand on domestic credit because of constraints on external credit…Even so, such a rapid rate of credit growth is a cause for concern and will warrant intensified monitoring and continued correction," it says.

In other words, RBI is against an expansionary monetary policy because it strongly feels that the undercurrent of inflationary pressures still exists and banks are overstretching themselves in the credit market. If that is the case, why did it cut the rates and release so much money in the system?

The 204-word RBI statement issued on 20 October, announcing the rate cut, did not have a word on inflation. In fact, none of the RBI releases issued in the past few weeks on CRR cut and other measures spoke about the monetary overhang and credit expansion that stoked inflation.

The policy document has reiterated RBI’s confidence in “managing the situation and minimizing the adverse impact of the global crisis on the Indian economy". It also says, “Our financial system is strong and healthy, and our economic fundamentals are strong." Subbarao has also assured the market that RBI will closely and continuously monitor the situation and respond “swiftly and effectively" to all developments.

Indeed, this is an abnormal time and the enormity of the crisis calls for prompt response.

RBI does not need to pander to the market expectations of freeing more liquidity and cutting interest rates every other day but it must convince the market that there is consistency in its approach in tackling the crisis.

However abnormal the time is, if expansionary policy actions are followed by hawkish statements, all stakeholders of the financial system get confused.

RBI is not well known for clarity when it comes to policy statements. The latest policy has not deviated from that tradition. And it has also not given any signal.

Also Read Tamal Bandyopadhyay’s earlier columns

Tamal Bandyopadhyay keeps a close eye on all things banking from his perch as the Mumbai bureau chief of Mint. Please email comments to