Bankers bet on rate hike by RBI

Inflation soared past the 5% mark in September.

The Reserve Bank of India may not take a cue from the US Federal Reserve's decision against a rate hike when it announces its mid-year review of monetary policy on October 31. This was because growth impulses continued to be strong on the domestic front, said bankers.

Inflation soared past the 5 per cent mark in September after the economy expanded at a faster than expected rate of 8.9 per cent in April-June 2006. This has led to growing expectations that the RBI may hike its benchmark reverse repo rate for the fourth time this year.

Earlier this month, the European Central Bank decided on a tightening with a 25 basis point increase of its benchmark rate. However, the Fed had left its rate unchanged last month and the Japanese central bank, too, has refrained from another rate hike after settling for a quarter percentage rate, ending the four-year-old zero rate regime.

The Federal Open Markets Committee will meet again on October 24, a week before the RBI undertakes its mid-term review.

"The external factors indicate a softness in rates but the domestic economy is going strong. It will be a difficult call for the RBI. We think there is a slim chance of the RBI going for a rate hike," said a banker who had met the central bank brass in one of the pre-credit policy meetings.

However, if crude oil prices fell below $55 a barrel, the RBI might opt for status quo, felt another banker.

Analysts said though the RBI's inflation target was 5-5.5 per cent, Finance Minister P Chidambaram had already indicated that the inflation tolerance level had dropped to 4 per cent. In the week ended September 30, inflation rose to 5.16 per cent from 4.77 per cent a week earlier.

The 8.9 per cent growth in the GDP in the first quarter of 2006-07 follows a higher-than-expected 9.3 per cent increase in the previous quarter ended March 31, 2006.

The RBI has raised the reverse repo rate by 150 basis points (one basis point is one hundredth of a percentage point) in three stages to 6 per cent to check inflation.

The growth in credit has been the highest ever, at least since the RBI started maintaining data in 1971. Reverse repo rate is the rate at which the RBI absorbs overnight liquidity from the banking system.

Though there are signs of the previous three hikes of 25 basis points each in the benchmark rate having had an impact on credit growth in percentage terms, the absolute disbursement of credit still remains high.

The year on year growth in bank credit has slowed to 29.7 per cent from over 35.9 per cent a year earlier. The outstanding credit increased by Rs 3,84,889 crore on September 29, much higher than the Rs 3,37,244 crore a year earlier.

Added to this are concerns over high growth in money supply (M3), a potent rationale for signalling further increase in interest rates. The year on year M3 growth, on September 29, was at a high of 18.5 per cent, on top of 17.4 per cent a year earlier, driven by credit to the commercial sector. The RBI's target for M3 growth for 2006-07 is 15 per cent.