Monetary and Credit Policy: Repo and Reverse Repo Rates Unchanged

The Reserve Bank of India (RBI) has recently released its mid-quarterly review. It has clearly spelt out that monetary policy actions will be in terms of rate cuts going forward, given the moderating growth momentum and higher downside risks to growth.
The RBI kept repo and reverse repo rates unchanged at 8.5 per cent and 7.5 per cent, respectively, to fight rising inflation in Asia's third largest economy. The central bank left Cash Reserve Ratio (CRR–(money that banks must keep with the RBI) unchanged at 4.75 per cent. Recently, the RBI slashed CRR, the portion of deposits banks are required to keep with the central bank, by 0.75 percentage points, a step that was meant to infuse Rs 48,000 crore into the economy.
Earlier on March 9, the central bank cut CRR by a hefty 75 basis points, or three-fourths of one per cent, from 5.5 per cent to 4.75 per cent effective the fortnight beginning March 10.
The markets and the corporate sector were expecting the CRR cut on March 15 when the RBI is scheduled to announce its mid-quarter review. But the central bank said on Friday it feared a liquidity crunch due to the advance tax (to be paid before March 15) outflows; and this would have increased the already tight position of banks due to the usual frontloading of cash balances with the RBI.This CRR cut will inject around Rs. 48,000 crores of primary liquidity into the banking system. Earlier in January, the cut in CRR of half a per cent injected Rs. 31,500 crores into the banking system. The CRR cut was welcomed by banks and the corporate sector.
On January 24, RBI had cut CRR by 0.5 percentage points to 5.5 per cent, releasing Rs 32,000 crore into the system. Since then, the fund crunch has only worsened.
The strain on the system rose to high of Rs 1.02 lakh crore. And going forward it will only increase as by March 15 companies will have to make advance tax payments which will drive out Rs 60,000 crore from the system.
Another Rs 12,000 crore is likely to go out of banks due to the Oil and Natural Gas Corporation (ONGC) auction last week, and a similar amount will be drained out on account of excise duty payment by companies.
Rate of Inflation
Inflation rose to 6.95 per cent in February which is much above the Reserve Bank’s comfort level of 5-6 per cent. RBIs own forecasts of inflation is that it will go down to 7 per cent levels in March 2012 from November 2010 levels of 9.11 per cent. RBI has indicated that non food manufacturing inflation is still a worry as it has gone up from 7.6 per cent in October 2011 to 7.9 per cent in November 2011. However, it has reiterated that despite the rise in non food manufacturing index, headline inflation momentum is slowing down.
The market will now have to work out its own math on inflation. Inflation can surprise on the downside as much as it has surprised on the upside. It is going to be a difficult call on where inflation is headed in 2012, but considering the fact that prices are already at elevated levels with inflation as measured by the Wholesale Price Index (WPI) averaging over 9 per cent for the past two calendar years, inflation has the ability to come off sharply especially if global growth slows down dramatically.
GDP Growth
There are now serious concerns on the slowdown in the Indian economy as the Gross Domestic Product (GDP) growth figures for the September-December 2011 quarter came in a paltry 6.1 per cent, the lowest since the Lehman crisis that shook the global economy in 2009.
The economy has given mixed signals in the past few months with some green shoots being seen on inflation, foreign institutional investor inflows, stock markets, the rupee and policy action picking up.
However, the figures come as a dampener as they are well below estimates. It is clear the lag effect of problems seen last year of low investor confidence resulting in low investment, high inflation and high interest rates and policy inaction are playing out. The surprise is that GDP growth is now at the level seen during the Lehman crisis when the world economy was in a reset mode though the situation has improved since.
GDP growth decelerated to a low of 6.1 per cent in the third quarter of fiscal 2012, raising fresh concerns about the growth slowdown. Industrial sector continues to be the main laggard and grew at an anemic rate of 2.6 per cent due to falling domestic demand and faltering global recovery.
The magnitude of moderation has been a bit of surprise because advance estimates released earlier had pegged financial year 2012-13 growth at 6.9 per cent.
According to FICCI, it would be ironical if GDP growth in 2011-2012 goes below 6.8 per cent, would be lower than in the crisis that was achieved in 2008-09 — the year of the post Lehman crisis.
Foreign Trade
Indian imports continued to outpace exports in February as demand remained weak in major exports markets like the United States and Europe, nudging the government to revise up the full-year trade deficit projections.
A widening trade deficit will likely worsen India's current account deficit and further weaken the rupee. Merchandise exports grew an annual 4.3% to $24.6 billion in February, while imports grew 20.6 percent to $39.8 billion.
The trade deficit widened to $15.2 billion during the month, from $14.8 billion in January.

Bangladesh Banking Sector Heading Toward Disastrous Situation

Severe liquidity or cash crisis is going on in the banking sector. Banks have become beleaguered to get rid of this liquidity crisis. As immediate solution to crises, banks are increasing their interest rates on deposits. Some are maintaining their with each passing day expenditures after borrowing from the call money market (for inter-bank transaction) at a high rate. In addition, some of the banks are borrowing from Bangladesh Bank through repos (Repurchase Agreements) after pledging the liquid assets like treasury bills and bonds. Their deposit management cost is increasing as they are collecting deposits at a high rate. Some of them are increasing their lending rate to cope up with this additional cost. As the interest rate on bank financing is rising, the cost of investment of the entrepreneurs is also increasing. As a result cost of production is rising. The entrepreneurs are avoiding bank financing as their cost of production is increasing. According to the bank analysts, the situation in the banking sector is not good at all. They have apprehended that if the current situation is not handled properly, the banking sector will face collapse in the future.
Increase of Interest Rate
However, the businessmen have become worried with the increase of the interest rate. They are saying that their cost of doing business is going up with the increment of the borrowing rate of bank financing. As a result the production cost is getting increased. In this situation, the commodity price is getting out of the reach of the mass people. The businessmen are apprehending that the inflation will increase further in the future. The Federation of Bangladesh Chambers of Commerce and Industries (FBCCI) -- the supreme organization of the business community -- has urged intervention of the Bangladesh Bank on reducing the higher interest rate, keeping the service charges within the tolerable level, and revising the interest rates for the financing in the productive sector.
In this regard, a group of businessmen led by A.K. Azad, chairman of this supreme organization of business community recently had a meeting with Bangladesh Bank Governor Dr Atiar Rahman. The businessmen discussed the overall condition of the trade and commerce of the nation with the Governor in a two-hour-long meeting.
Financing in Productive Sector
FBCCI Chairman A.K. Azad said that after the lending cap on the financing in the productive sector was removed on 9 March the banks were almost competing with each other in increasing the lending rate. Even before 9 March, the maximum lending rate for the business loan was 13 percent; whereas after 9 March the lending rate of 15 to 18 percent is being imposed on the businesses. Some of the banks have taken it to even 20 percent. Because of this, the cost of business is increasing. The FBCCI chairman believes that this will further ignite the inflation. The investment will not grow. No new employment will be generated. As a result the rate of unemployment will rise further. Under such condition, he expected that the central bank will take initiatives to determine the interest rate that will be beneficial to the economy.
Bangladesh Bank Deputy Governor Nazrul Huda has said that the businessmen have requested to redetermine the maximum lending rate. The Bangladesh Bank has informed the businessmen that there is no scope for redetermination of the interest rate. Moreover, the central bank cannot take such measure in the market economy. However, the banks will be requested to keep the interest rate to a tolerable level.
However, the interest rate on bank financing is continuously increasing. Bankers are not paying heed to the protests of the businessmen. Thirty of the local and international banks have increased their lending rate in this April. Among them, some of the banks have increased their interest rate by three to thee and half percent. In April 2011, the rate of interest in business loans has been 18 percent; whereas in March it was imposed maximum at a rate of 13 percent. Among the 30 private commercial banks 26 have increased their rate of interest in the current month. Among the other four there is a specialized bank and three foreign banks.
Businessmen have expressed their grievance at the interest rate increment of so many banks at a time. As per their opinion, the commodity price has already increased due to the rise of fuel price in the international market.
Fund Management of Banks
However, the fund management of the banks are facing cataclysm because of cash crisis. The total liabilities of some of the banks are not matching up with their total assets. As a result bank is losing their capability for settlement of claims including returning the deposits of the depositors.
As per central bank's guideline, in any particular month, the difference between the total assets of the bank and their claims to be settled must not be greater than 20 percent of their total asset. For example, suppose a bank in a particular month will have to pay off 100 takas (Tk), including earlier committed credit, returning the money of the depositors in the maturity of their deposits, and settlement of import payments. However, in that month, the total earning of the bank from adjustment of credit, proceeds from the maturity of treasury bills and bonds, income from different commissions, and income from the deposits has been Tk 80. So, the difference between the asset and liability would be Tk 20.
This is somewhat acceptable as per the asset liability management guideline of the central bank. Bank may adjust the deficit of Tk 20 from the call money market (the inter-bank market for funds) or through repos from the Bangladesh Bank. But if this difference becomes more than 20 percent, there is possibility of many sorts of hazards for the bank. For example, the captioned bank may face severe liquidity crisis. As a result, the bank loses its capability to settle any of its claims. The bank cannot meet the condition for keeping the mandatory cash reserve with the central bank Cash Reserve Ratio (CRR). The Statutory Liquidity Reserve (SLR) becomes deficient. To resolve the crisis, the banks borrow from the market at a very high rate. In addition, they also collect short term deposits at a very high rate. As a result the fund management cost of that bank increases the consequences into collapse of the overall system of the bank.
One of the high officials of the central bank said that as per the fund management of the banks, a bank has to estimate the probable liabilities in a month. Along with that the amount of total inward deposits at that particular month is also to be estimated. The fund management system of a bank is maintained on this basis.
However, many of the scheduled banks are not following this guideline in the recent time. They are incurring greater amount of expenditures not conforming to their income. As a result different bank are getting excessively dependant on the Bangladesh Bank and the call money market. Many banks are not being able to maintain their day to day expenditures.
An industrialist claiming anonymity informed that at the time of encashment of large amount of check, some banks are not paying within a day. After partially paying they are requesting to come in the next day.
For getting out of this crisis, some of the banks are borrowing from the call money market. Again they are rushing toward the Bangladesh Bank . Every day, they are borrowing more than Tk 90 billion as repo (borrowing for short-term) and under special liquidity support. In some days Bangladesh Bank is even lending Tk 100 billion.
Condition in Banking Sector
Bankers believe that the Bangladesh Bank is entirely responsible for such condition in the banking sector. As per their opinion, in the past seven months of 2010 Bangladesh Bank increased the CRR -- The banks' mandatory rate of reserve to the central bank twice. Because of this, approximately Tk 40 billion came to the central bank from the banks. As a result liquidity crisis began in the banking sector. As a result, in the first month of this year the rate of interest in the call money market climbed up to 170 percent that is recorded as the highest until now.
Dr Saleh Uddin Ahmed, former governor of the Bangladesh Bank, said that the initiative of the central bank to increase CRR was not proper and was not a timely step. He said that the reason was that in December, the banks adjust their entire year's transaction. In this time, they normally disbursed less amount of credit and collected greater amount of deposits, he stated. As a result, their balance sheet remained in good shape, he said. But as CRR rate was increased at that particular time, banks had to keep their deposited money with the central bank on mandatory basis, he stated. He said that the result had been as it was predicted. According to the analysts, the central bank has to take responsible decisions for getting rid of this situation occurred in the banking sector. Otherwise they are anticipating that the crisis in the banking sector will have a negative impact on the overall economy.

Midyear Review of Monetary Policy 2011-12

The Reserve Bank of India (RBI) on 25 October raised interest rates by 25 basis points and lowered the economic growth forecast to 7.6 per cent for the current fiscal even as it expressed hope that inflation will start coming down from December. RBI Governor Duvvuri Subbarao also deregulated savings bank deposit rates with immediate effect.
The policy is expected "to continue to anchor medium term inflation expectations", while stimulating investment activity to support growth.
Borrowers, who are livid at repeated rate hikes, can heave a sigh of relief as the RBI hinted at a reversal of policy stance by saying the likelihood of a hike in December is "relatively low".
The central bank has kept other key rateand ratio — Bank Rate and Cash Reserve Ratio (CRR) — unchanged at 6 per cent each. It also retained the Statutory Liquidity Ratio (SLR) at 24 per cent.
Earlier in May, RBI had raised the savings deposit rates to 4 per cent from 3.5 per cent.
The RBI has also proposed to notify banning prepayment penalty on floating rate home loans, as recommended by the Banking Ombudsman recently. The policy document further stated that RBI will issue the final guidelines on credit default swaps by November-end.
Economic Growth Rate
Factors like weakening global macroeconomic outlook and high domestic inflation will pull down the economic growth rate further, RBI said while lowering the Gross Domestic Product (GDP) forecast for the current fiscal to 7.6 per cent from its earlier projection of 8 per cent.
The central bank had earlier projected the Indian economy to grow by 8 per cent in 2011-12, lower than 8.5 per cent recorded in 2010-11.
The risks to the policy emanate from worsening global macro scenario, commodity prices and increase in government spending which could crowd out private investment, it said.
An important policy decision RBI announced is the freeing of savings bank deposit rates with immediate effect, the last bastion of the regulated interest rate regime.
The RBI said: "While growth in advanced economies is already weakening, there is a risk of sharp deterioration if a credible solution to the euro area debt problem is not found."
Rate of Inflation
In addition to inflation, the RBI said slowdown in project investments was also impacting growth. The overall inflation has remained above 9 per cent since December 2010. It was 9.72 per cent in September.
Elevated inflationary pressures are expected to ease from December 2011. The projection for Wholesale Price Index (WPI) inflation for March 2012 is kept unchanged at 7 per cent.
Food inflation, which account for 14 per cent in the overall inflation, stood at a six month high of 10.60 per cent
Significantly, despite the fall in inflation during the week, prices of onions went up by19.68 per cent on an annual basis while fruits turned 15.84 per cent dearer. Alongside, milk prices also rose by 10.76 per cent, as did prices of eggs, meat and fish by nearly eight per cent. On a yearly basis, cereals and vegetables were also dearer by 4.77 per cent and 4.31 per cent, respectively.
According to the WPI data, while inflation of overall primary articles stood at 11.13 per cent for the week ended July 9, down from 11.58 per cent in the previous week, inflation of non-food articles was pegged at 15.50 per cent for the week, up from 15.20 per cent.
The RBI also indicated that it might not go in for another rate hike in its midquarterly review in December 16, provided the inflation does not shoot up further. According to the RBI, if the inflation trajectory conforms to projection, further rate hikes may not be warranted. It stated that concerted policy focus is needed to generate adequate supply response in respect of items such as milk, eggs, fish, meat, pulses, oilseeds, fruits and vegetables.

Indian Economy Poised For Fast Development After Recession

Amid all indications of improvement in the Indian economy, the World Bank has also estimated that the country's economic growth rate, between financial years of 2010-11 and 2011-12, could be from 7.5 to 8-percent. The point to be noted is that the average growth rate of the economy between 1995 and 2005 had been 6.4-percent. From this viewpoint, the World Bank's estimate is also presenting a rosy picture of the country's economy on lines of other estimates and is confirming that India's economy has come out of recession and is well on the way of progress.

Improvement in Economies of High-Income Countries
There are strong possibilities of further development of the Indian economy. It would continue to get stronger with foreign demand. Improvement in the economies of high-income countries would also benefit the country's economy, because this would increase demand from these countries and the flow of foreign investment would increase, which would further strengthen the country's economy. The commendable thing here is that the country would achieve this even when the stimulus packages, given for recovering from the economic recession for the next year i.e. 2010-11 are withdrawn.

Impact of Global Recession
One more noteworthy thing would be that while the Indian economy surges ahead in the years 2010-11 and 2011-12, the pace of global economic growth would be quite slow. Continuous growth of our economy is confirmed by the export figures for December 2009. An increase of 9.3-percent was registered in exports in January. This is the second consecutive month registering growth in export. There had been a fantastic growth of 18.2 percent registered in exports in November 2009.
After falling continuously for 13 months, exports had registered increase for the first time in November 2009. The global recession had been the reason for continuous fall in exports, but with satisfactory growth registered for a second consecutive month, it is proved that our export sector is emerging from recession.

Export Growth
With improvement in industrial activity, there has been increased import of raw material for export trade. This means that exports are growing. There is hope of 10-percent growth in exports in the year 2010-11.
The export sector of the country would become stronger after price rise comes under control, as it would make our goods more competitive in the international market. There is hope that price rise would soon come under control with other measures being taken at the government level, along with increase in the Cash Reserve Ratio (CRR) by the Reserve Bank of India.

Credit and Monetary Policy Still Influenced by Effects of Recession

Nothing new happened on 27 October. The script of the Credit and Monetary Policy announced by Reserve Bank of India (RBI) Governor D. Subbarao was written by the RBI on 26 October itself during the quarterly review of Indian economy. Although it is being said for some time that India has now recovered from the shocks of economic recession, the RBI believes that it is still time to take steps cautiously.

CRR, Repo and Reserve Rates Unchanged
No change was, therefore, made in most of the rates. Neither was any change made in the bank rates, nor in Repo Rate, nor in Reverse Repo Rate, or in the Cash Reserve Ratio (CRR).

Obviously the RBI wants that steps that were taken during recession for relief to industries should continue. They should continue to get credit at lower rates.

Danger of Inflation
One thing became clear from the 26 October report that the RBI perceives the danger of inflation, in spite of the fact that the inflation rate was below zero until a few days ago, and is still quite low. But the RBI feels that it could go up in the coming days.

For that, by increasing the Prime Lending Rate (PLR) by one percent, the bank had already indicated that it does not want any more monetary expansion at the moment.

Common Man's Concern
However, the reason for the common man's concern is not this figure of inflation, but the inflation in food commodity prices, for which the RBI is also watching the Rabi (winter) crop like everybody else. Apart from price rise, the bank sees another danger in real estate business. It feels companies engaged in this trade could get into trouble, and has made provisions for disbursement of loans to housing companies more stringent.

One problem continues, which dashes the hopes of many. The kind of scene witnessed in the stock market after the announcement of monetary policy is the result of such sense of hopelessness of several trades.

While banking companies are troubled by some limitation on their business possibilities, housing companies are unhappy that they would not be able to get loans easily now. And when housing is jolted, it has to impact on steel and cement. If crops are good, everybody would recover from these shocks. And then, the economy would also be prepared for a progressive policy rather than the monetary policy for recession.