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Reserve Bank defers decision on interest rate changes

Government borrowing may queer liquidity crunch in later stages

THE CREDIT policy for the slack season of 2006-07 announced by Y.V. Reddy, Governor of the Reserve Bank of India, has no surprises, as there is no change in the bank rate, repo rate and reverse repo rate. The cash reserve ratio also is unchanged at 5 per cent. As it will be necessary to reverse the earlier trend in the bank rate, which had come down to 6 per cent on April 29, 2003, from 8 per cent over three years, the RBI Governor obviously has not been keen to hike the bank rate even by 25 basis points signalling an era of dearer money.

The monetary authorities are presumably unwilling to push up interest rates, as the borrowing programmes of the Central and State governments may be adversely affected, when there is a noticeable squeeze in the money market. It had been represented to the RBI Governor that there should be a reduction in CRR by one percentage point to enable banks to augment their resources by over Rs. 20,000 crores.

New lead awaited

The Reserve Bank is obviously inclined to await further developments in the money market. Interest rates are hardening in the U.S. and other countries while world crude prices are ruling at high levels and there is worry over the worsening of relations between the U.S. and Iran, with the latter keen to go ahead with its plans for producing enriched uranium.

The inflationary pressures on account of dearer crude and petro products have been smothered through a policy of distributing the subsidy burden among various stakeholders. The inflation rate, as a result, has even come down to a new low level of 3.24 per cent from 5.7 per cent a year ago. The inability of public sector units to hike prices of subsidised products so far is creating problems for them and it remains to be seen whether any decision will be taken by the Centre after the Assembly elections are over.

Banks feel overstretched

Even otherwise, the money market is uncomfortable with the banking system in dire straits. Despite a record growth of 16.9 per cent in deposits of Rs.3,02,534 crore in the year ended March 31, 2006 against an increase of 12.8 per cent, banks found it difficult to meet the growth in credit of as much as Rs.3,44,264 crore. They had to meet the shortfall by utilising earlier surpluses and virtually dispensing with fresh investments in Central and State government loans. Indeed, investments have dropped by 11,576 crore against an increase of Rs. 49,373 crore earlier.

A major concern in industry and money market circles relates to banks' capacity to meet the requirements of manufacturing units and extend more credit to agriculture and allied industries on a priority basis. The apprehensions acquire poignancy as fresh deposits are expected to rise only by 9.08 per cent against 29.44 per cent earlier.

In spite of a determined bid to restrict credit expansion to 20 per cent as against 24.12 per cent previously, the gap between fresh deposits and the projected increase in credit will be widening .

This will get accentuated later in the year with intensified government borrowing and assertion of busy season developments, calling for a cut in CRR by at least one percentage point in stages. In the developing situation, deposit and lending rates are being raised. NRIs and others are also being encouraged to bring in funds through higher deposit rates.

Focus on credit quality

It is, however, expected that fresh deposits may exceed projected figures helping to avert an unmanageable situation. Greater emphasis is also being laid on regulating credit expansion. particularly housing and other retail loans. Actually, standard advances have been raised to one per cent for personal loans, capital market exposures, for residential housing beyond Rs.20 lakhs and commercial real estate loans.

Buoyant bourses

While the happenings in the external sector and in the money market are being closely watched, there has been even greater buoyancy in the bourses, as the credit policy has not had any queering pitch. Indeed, FIIs and others have been avidly increasing their purchases of listed securities and extending also good support for almost all new issues. As it is even confidently expected that FDI will be as much as $10 billion in the current financial year, the secondary and primary markets will remain buoyant.

Foreign credit agencies have, in fact, given a good chit for India's economic growth and the BSE index surpassed the magical 12,000-mark on April 20. In Friday's session, two sided movements were noticed. But the losses in mid-session were substantially recovered and the BSE index finished at 12,030.30, after touching an intra-day high of 12,102. There is disposition, however, to adopt a cautious view, as the immediate outlook cannot be definitely ascertained, in spite of corporate results for 2005-06 being highly impressive. But for the augmentation of floating stocks thanks to a spate of new issues under influential auspices, an equity crunch might have emerged.

P. A. Seshan

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