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Status quo on policy rates can spur investment demand: Subbarao

Oommen A. Ninan

Reserve Bank raises GDP growth projection to 6 per cent with an upward bias

— PHOTO: PAUL NORONHA

AMPLE LIQUIDITY: RBI Governor D. Subbarao (right) and Deputy Governors Usha Thorat (centre), and K. C. Chakrabarty at a meeting in Mumbai on Tuesday.

MUMBAI: The Reserve Bank of India (RBI) on Tuesday kept all indicative policy rates unchanged, while raising the growth projection for gross domestic product (GDP) for 2009-10 to 6 per cent with an upward bias and inflation to 5 per cent at the end of March 2010 from 4 per cent.

“We have adjusted the policy rates several times in the last ten months. Currently, the repo rate is at 4.75 per cent, the reverse repo at 3.25 per cent, and the CRR (cash reserve ratio) at 5 per cent. Consistent with our current assessment of macroeconomic and monetary conditions, we have decided to keep all these rates unchanged,” said RBI Governor D. Subbarao here while reviewing the first quarter of its Annual Policy 2009-10.

Signs of revival

As liquidity remains ample, said Dr. Subbarao, the competitive pressure on banks to reduce lending rates had increased. Consequently, the transmission of policy rate changes to bank lending rates had improved since the last Annual Policy Statement in April 2009.

“As the short-term deposits contracted earlier at high rates mature and get repriced, it opens up room for banks to further reduce their lending rates,” said Dr. Subbarao after meeting bankers on Tuesday. Bankers generally welcomed the Reserve Bank’s policy stance, the Governor said. “The status quo on policy rates would anchor interest rate expectations that could spur investment demand. Bankers indicated that they are seeing signs of revival in the domestic economy and expect credit demand to pick up in the second-half of the year. In this context, I emphasised the need to increase the flow of credit, particularly to agriculture and micro, small and medium enterprises”.

Banks were concerned that their liability structure was getting shorter with the reduction in the term structure of deposits, while the asset structure was getting elongated on account of the increasing share of long-term loans, particularly infrastructure.

Several banks also indicated that the share of current and savings (CASA) deposits had been declining, which would put pressure on their net interest margins (NIM). As regards credit quality, banks were of the view that non-performing assets (NPAs) were expected to increase, particularly, in the unsecured segments, although they would remain manageable.

Going forward, public sector banks emphasised the need for raising capital as risk-weighted assets expand in their asset portfolio. On current assessment, the growth projection for GDP for 2009-10 is placed at 6 per cent with an upward bias. This updated growth projection thus marks a slight improvement over the growth expectation of around 6 per cent indicated in the Annual Policy Statement.

“The overall macroeconomic scenario continues to be uncertain, although it is expected that the fiscal and monetary stimulus measures will supplement domestic demand in 2009-10.

“On balance, an uptrend in the growth momentum is unlikely before the middle of 2009-10.”

Inflation

WPI (whole-sale price index) inflation for end-March 2010 is projected at around 5 per cent, higher than the projection of 4 per cent made in the Annual Policy Statement of April 2009. As anticipated, the WPI inflation turned negative in June 2009 due to the statistical base effect and not because of any contraction in demand. However, the sharp decline in WPI inflation has not been commensurately matched by a similar decline in inflation expectations. Within WPI, inflation of primary articles, particularly food articles, remains significantly positive. Moreover, consumer price indices (CPIs) have remained elevated, indeed also hardened in recent months. Said Dr. Subbarao, “Global commodity prices have rebounded ahead of global recovery and the uncertain monsoon outlook could further accentuate food price inflation”.

On balance, Dr. Subbarao said, the risks to the current projections of real GDP growth and inflation for 2009-10 were on the upside. The comfortable levels of foodgrains stocks should help mitigate the risks in the event of price pressures from the supply side. The Reserve Bank will also closely monitor the level of liquidity so as to contain inflationary expectations if supply side price pressures were to rise.

Market borrowing

During the first half of 2009-10, net market borrowing of the Central Government through dated securities will be Rs. 2,65,911 crore, of which nearly 63 per cent (Rs. 1,67,911 crore) has been completed by July 27, and an additional amount of Rs. 28,000 crore has been raised through de-sequestering MSS (market stabilisation scheme) balances.

The open market operations (OMO) undertaken so far have been of the order of Rs. 33,439 crore, accounting for about 42 per cent of the notified amount of Rs. 80,000 crore.

“There is, therefore, sufficient headroom available to the Reserve Bank to manage the balance borrowing smoothly. It may be noted in this context that during the first half of 2009-10, proposed OMO purchases and MSS unwinding will add primary liquidity of Rs. 1.50 lakh crore, which by way of monetary impact is equivalent to reduction of CRR by over 3.5 percentage points”.

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