RBI exits loose monetary policies

India’s domestic economy has started showing some signs of revival which is evident from the encouraging numbers that are received from different quarters. On the other hand, the global economic outlook is still not very clear. In this situation, the Reserve Bank of India (RBI) is forced to initiate some precautionary steps on account of abundant liquidity, inflationary pressures and weak credit off-take. As a result, the RBI has announced exit from its expansionary policy and has taken out some of the liquidity windows offered to the ailing sectors during the global crisis.
In order to stabilise the economy, the RBI in its second-quarter review of monetary policy 2009-10 has maintained a status quo in its lending and borrowing rates. “While reversing of conventional measures is not considered appropriate for now, many of the unconventional measures can be reversed immediately,” the RBI said in its quarterly monetary policy review.

What has not changed?
• The RBI kept the repo and reverse-repo rates unchanged at 4.75 per cent and 3.25 per cent, respectively.
• It has also not touched the Cash Reserve Ratio (CRR) – the portion of deposits commercial banks need to keep with the RBI – which is at 5 per cent currently.
• It has also kept the GDP target unchanged at 6 per cent with an upward bias.

What has changed?
The central bank has hiked the Statutory Liquidity Ratio (SLR) – the amount commercial banks need to maintain in the form of cash, government-approved securities (G-Secs) and/or gold before providing credit to borrowers – to 25 per cent from 24 per cent, effective from Nov 07, 2009. This move will lead to over Rs 30,000 crore being absorbed from the system.

What’s on the anvil?
The central bank also aims to reduce surplus liquidity and fight inflation which is moving in upward direction on account of a deficit monsoon (22 per cent deficit) that led to the increase in food prices. The rise in inflation has prompted RBI to revise its inflation estimate from 5 per cent to 6.5 per cent. Within one-and-a-half month, inflation has gone up from -0.12 per cent to 1.21 per cent, a rise of more than 1 per cent.

More tightening
The RBI has initiated exit from expansionary policy so as to meet its growth and inflationary targets and also to bridge the fiscal gap. To tighten the credit further, it has discontinued a forex swap facility for banks and cut an export credit refinance facility to 15 per cent, a pre-crisis time level, from the current level of 50 per cent. It has also ended the special repurchase window for banks, mutual funds and NBFCs with immediate effect. The central bank has also increased the provisioning requirements for loans to commercial real estate from 0.4 per cent to 1.0 per cent.

Market response
After the RBI’s quarterly policy review, the domestic markets collapsed. The barometer index BSE Sensex tanked by 386 points on profit-booking across all sectors except for IT companies. The BSE Realty index fell by 6.24 per cent while BSE Metal index slipped by 5.43 per cent. On debt front, the 10-year G-Sec yield slipped from 7.41 per cent to 7.31 per cent, a gain of 0.1 per cent or 10-basis points.

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