Though the buzz of a cut in the cash reserve ratio (CRR) is doing the rounds among dealers, economists expect the Reserve Bank of India (RBI) to hold the policy rates as well as the CRR during the mid-quarter review of the monetary policy scheduled for Friday, December 16.
Experts say the central bank will refrain from using the CRR as a liquidity tool, as a reduction in the rate will go against its current anti-inflationary stance. CRR is the proportion of deposits banks need to set aside with the central bank as cash. It is currently six per cent of the net demand and time liabilities.
“Latest comments from the RBI indicate the CRR is also a monetary policy tool, and reducing it would signal a reversal of its monetary policy stance. To avoid sending such a signal but support banking system liquidity, the RBI is likely to continue to employ tactical tools, such as buying government securities via open market operations (OMOs),” say Anubhuti Sahay and Nagaraj Kulkarni, economists at Standard Chartered Bank.
| 5 REASONS WHY A CRR CUT IS NOT REQUIRED * With inflation still close to double digits, a CRR cut would contradict the RBI’s anti-inflationary stance 9.73% — October WPI inflation * No real cash crunch, as liquidity shortage is less acute this time Rs 85,000 cr — The avg daily LAF borrowing in December vis-à-vis Rs 1.2 lakh cr in December last year * Banks sitting on high SLR 29% — Banks’ excess SLR holding as compared to the 24% mandate * High interest rates resulting in lacklustre loan demand 17.6% — YoY loan growth till Nov * Banks not availing marginal standing facility yet, overnight rates stable Only Rs 100 cr availed by banks since MSF inception in May; call rates remained around the repo rate |
RBI deputy governor Subir Gokarn indicated as much when he said last week, “CRR is not just a liquidity tool, but also a monetary policy signal and we are, as of now, still in a situation where inflationary pressures are high.” The rupee, which has depreciated around 17 per cent this year, has added to inflationary pressure as the country imports nearly 80 per cent of its oil requirement.
Headline inflation has hovered around the double-digit mark for 20 months despite a series of rate hikes by the RBI. The central bank has raised the key policy rate 13 times since March 2010, with effective tightening of 375 bps.
Economists say the cash deficit in the system is not acute as banks are holding more government securities than required to be held as statutory liquidity ratio (SLR). Hence, a CRR cut is not required. According to rough estimates, the potential liquidity banks currently hold in the form of excess SLR is around Rs 2,70,000 crore. Though the liquidity situation may worsen due to advance tax outflows during the middle of the month, bankers expect the quantum of outflow this time to be lower than previous occasions.
In December, banks borrowed an average of Rs 85,000 crore from the repo window of the RBI. In December last year, the figure was Rs 1.2 lakh crore, with the deficit crossing Rs 1.5 lakh crore on a few days — much higher than the RBI’s comfort zone of plus/minus one per cent of the net demand and time liabilities ( Rs 50,000 crore last year).
More From This Section
“We believe the RBI will maintain the status quo as far as the interest rate action is concerned. While growth concerns have mounted, inflation still remains elevated and a rate cut at this stage is not likely to be effected. As far as liquidity conditions are concerned, we do not feel a CRR cut will be announced in this policy, as it will be contrary to the anti-inflationary stance. The preferred route would be through OMOs,” says Shubhada Rao, chief economist, Yes Bank.
Though the central bank is expected to maintain the status quo, market participants will closely look at the language and the expectation is of a dovish stance, as economic activity has started to slow down. Economists expect the RBI to adopt a pro-growth stance in the January policy by starting with a reduction in interest rates.
“The policy stance is expected to be dovish, in line with the trend in growth data and food inflation, with no change in CRR or the policy rate. Pro-growth actions are expected in January, when the central bank announces its third quarterly policy review,” says A Prasanna, chief economist, ICICI Securities Primary Dealership.
A rate cut in the January policy is also seen, as inflation is expected to come down from January due to the base effect and with food inflation indicating a slowdown. According to the central bank’s estimates, headline inflation will remain elevated till the end of this year and will start softening during the later part of 2011-12. The RBI projects inflation at seven per cent by March-end.
“As per our baseline forecast, the rate-cut cycle starts from mid-2012; but a rapid deceleration in inflation could compel the RBI to consider its first rate cut as early as March. Well before it contemplates a rate cut, the central bank could consider improving the prevailing money market liquidity deficit by cutting the CRR,” Taimur Baig and Kaushik Das, economists at Deutsche Bank, say in a report.