Reserve Bank’s Mid-Quarter Monetary Policy Review. How will it affect banking sector?
– By Prathamesh Patil
RBI has initiated the following Monetary and Liquidity measures:
– To keep the policy repo rate under the liquidity adjustment facility (LAF) unchanged at 7.75 per cent; and
– To keep the cash reserve ratio (CRR) of scheduled banks unchanged at 4.0 per cent of net demand and time liability (NDTL).
Consequently, the reverse repo rate under the LAF will remain unchanged at 6.75 per cent, and the marginal standing facility (MSF) rate and the Bank Rate at 8.75 per cent.
The outlook for global growth continues to remain moderate, with an uneven recovery across industrial countries. Activity in major emerging market economies (EMEs) barring China has decelerated on account of weak domestic demand, notwithstanding some improvement in export performance. While volatility in financial markets has receded, it could pick up again following the inevitable taper of quantitative easing in the US, given the large dependence of EMEs on external financing.
Chanda Kochhar, managing director & CEO, ICICI Bank said, ”The decision to keep the policy rates unchanged is welcome in view of continued risks to growth and keeping in mind the possibility of softening food inflation and the lagged effect of earlier rate increases.The policy also recognizes the improvement in India’s external balances, while acknowledging the risks of tapering by the US Federal Reserve. In view of the current macro situation, the Reserve Bank of India’s commitment to managing adequate systemic liquidity and its balanced approach to growth and inflation should be seen as positives for economic recovery and stability.”
With the normalization of exceptional monetary measures, liquidity conditions have improved, as reflected in the steady decline in the access to the MSF. Capital inflows under the Reserve Bank’s swap facilities for banking capital and non-resident deposits augmented domestic liquidity significantly from the end of November. Over the first two weeks of December, banks refrained from utilising the limits under the overnight LAF repo and export credit refinance, and, in fact, excess liquidity was parked with the Reserve Bank through reverse repo. Anticipating the temporary tightness in liquidity starting from mid-December 2013 on account of advance tax payments, the Reserve Bank conducted additional 14-day term repo auction of `100 billion on December 13, augmenting the normal access to liquidity from the Reserve Bank to the tune of 1.5 per cent of NDTL (i.e., about `1.2 trillion) under overnight repos, term repos, and the export credit refinance facility. The Reserve Bank also opened a refinance facility of `50 billion for the Small Industries Development Bank of India (SIDBI) aimed at addressing liquidity stress faced by medium, micro and small enterprises. Liquidity is being managed with a view to ensuring that there is adequate credit flow to the productive sectors of the economy.
Policy Stance and Rationale
The policy decision is a close one. Current inflation is too high. However, given the wide bands of uncertainty surrounding the short term path of inflation from its high current levels, and given the weak state of the economy, the inadvisability of overly reactive policy action, as well as the long lags with which monetary policy works, there is merit in waiting for more data to reduce uncertainty.
There are obvious risks to waiting for more data, including the possibility that tapering of quantitative easing by the US Fed may disrupt external markets and that the Reserve Bank may be perceived to be soft on inflation. The Reserve Bank will be vigilant. Even though the Reserve Bank maintains status quo it can help guide market expectations through a clearer description of its policy reaction function: if the expected softening of food inflation does not materialise and translate into a significant reduction in headline inflation in the next round of data releases, or if inflation excluding food and fuel does not fall, the Reserve Bank will act, including on off-policy dates if warranted, so that inflation expectations stabilise and an environment conducive to sustainable growth takes hold.
Sensation Blog! 