In a move to ease liquidity and cool the markets, the Reserve Bank of India (RBI) announced an ad-hoc 50-basis-point reduction in the cash reserve ratio (CRR), or the proportion of deposits banks must keep with the central bank, from 9 per cent to 8.5 per cent.
The cut, the first such step by RBI Governor D Subbarao, will be effective from the fortnight starting October 11 and will release around Rs 20,000 crore into the system. This is the first CRR reduction since June 14, 2003, when it was lowered by 25 basis points to 2.50 per cent.
While bankers are not forecasting any immediate change in interest rates for borrowers, the flow of credit, which has nearly stopped in the last few weeks, is expected to improve. Deposit rates are also unlikely to fall.
“The move will release some tension in the market. But I do not expect any immediate cuts in lending rates. We will be very selective in disbursing funds. The first priority is to provide adequate resources to productive sectors, especially infrastructure and oil and fertiliser (which is more like working capital). The cut is a temporary measure and tight monetary policy is likely to continue because inflation is well above RBI’s comfort level,” said IDBI Bank Chairman & Managing Director Yogesh Agarwal.
“It’s too early to expect an impact on lending and borrowing rates,” said ICICI Bank Joint Managing Director and CFO Chanda Kochhar while adding that the bank was sanctioning and disbursing loans based on its lending parameters even during the tight liquidity situation in the last few weeks.
“It is a clear signal that the step is to cool down the market. For the last one week, nobody was extending credit for sanctioned limits and also not considering new proposals. This step should bring down rates in the inter-bank market,” added Andhra Bank Chairman and MD RS Reddy.
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Reliance Capital CEO Sam Ghosh said there would be no major impact on consumers but the decision would reduce the huge blip in liquidity.
A senior State Bank of India executive said that RBI’s latest move might not ease liquidity tightness too much and another 50-basis-point reduction was expected in the monetary policy review on October 24.
“It is not enough given the huge demand for corporate credit. The move to cut CRR is more of an indication by the central bank that it will inject more liquidity to the system, if required. RBI may take more steps gradually if liquidity situation does not improve,” said Punjab National Bank Executive Director J M Garg.
“The regulators will watch every step. It is very tough to predict since the impact (of the moves) is multiple. There is an impact on inflation, liquidity and the growth rate,” added Kochhar.
Tight liquidity conditions in the market had seen banks use the liquidity adjustment facility to borrow around Rs 90,000 crore from RBI every day for the last few days. In the call money market, some banks had paid as much as 17 per cent to raise funds on Friday. Today, the rates cooled with the weighted average rate according to Clearing Corporation of India data 11.32 per cent.
Tight liquidity in the domestic and the international markets had prompted bankers to seek RBI intervention in the form of CRR reduction and a further relaxation in the statutory liquidity ratio (SLR), or the amount banks must mandatorily invest in government securities. Over the last fortnight, bankers had raised the issue with the RBI leadership at least twice.
The announcement of an ad-hoc CRR reduction follows RBI’s consultations with the government, sources said. The tight liquidity situation was one of the major issues discussed at last week’s meeting of the high-level committee on capital markets which has representatives from the central bank, the government and other financial sector regulators.
In a statement this evening, RBI said, “This measure is ad-hoc, temporary in nature and will be reviewed on a continuous basis in the light of the evolving liquidity conditions.”
On September 16, after the turmoil in the US increased, for banks in dire need of funds, RBI had announced several measures including a one percentage point relaxation in the SLR below the mandated 25 per cent level.
“Since then, there has been a sharp deterioration in the global financial environment with the number of troubled financial institutions rising, stock markets weakening and money markets strained. Central banks across the world have stepped up their liquidity operations, including coordinated actions, and some have banned/limited short selling of financial stocks. These new developments have impacted domestic money and forex markets with a marked increase in volatility and a sharp squeeze on market liquidity as reflected in the movements in overnight interest rates and the high recourse to the LAF,” RBI's statement said.
The RBI will continue with its policy of active demand management of liquidity through appropriate use of the CRR stipulations and open market operations (OMO) including the MSS and the LAF, using all the policy instruments at its disposal flexibly, as and when the situation warrants,” it added.