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The strong criticism had an immediate effect, with three leading banks — State Bank of India (SBI), HDFC Bank and ICICI Bank — deciding to reduce base rates. While the first two opted for 15-basis point cuts to 9.85 per cent, ICICI Bank went a step further, announcing a 25-basis-point reduction. While SBI’s and ICICI Bank’s rate cut will be effective April 10, HDFC Bank’s will be effective April 13. Other banks are expected to follow any time. All the three banks have also reduced interest rates for retail fixed deposits of particular tenures.
Rajan had earlier chosen strong words, marking his impatience at the fact that only a couple of banks had cut lending rates after the previous two repo rate cuts, raising concern over the transmission of monetary policy to the broader economy. He dismissed bankers’ claims that the cost of funds was too high. “Banks are sitting on money. Their marginal cost of funds has fallen. The notion that it hasn’t fallen is nonsense,” Rajan said.
In a statement after its policy review, RBI said it would maintain an “accommodative stance” but cited risks, raising uncertainty about when the central bank would cut interest rates next.
That the absence of monetary transmission is on top of Rajan’s must-do list is clear from the preconditions for further rate cuts. “Going forward, the accommodative stance of monetary policy will be maintained but monetary policy actions will be conditioned by incoming data. But first, RBI will await the transmission by banks of its front-loaded rate reductions in January and February into their lending rates,” the statement said. Later, Rajan exuded confidence the pass-through would happen.
The bankers, however, weren’t amused by Rajan’s statement that to improve the efficiency of monetary policy transmission, RBI “will encourage banks to move in a time-bound manner to marginal-cost-of-funds-based determination of their base rate”.
While SBI Chairman Bhattacharya said this was something that “can’t happen tomorrow and requires a long transition period”, HDFC Bank chief Aditya Puri said the process had to be “carefully calibrated”, indicating RBI and banks weren’t on the same page on this issue.
Though the central bank said there could be scope for more rate cuts in the future, expectations were subdued. Experts said the scope of further easing was limited, as December-end retail inflation was seen at 5.8 per cent, while RBI wanted the real interest rate to be 1.5-2 per cent. While some see a cut of only 25 basis points this year, those more optimistic foresee a 50-basis-point cut. “If I choose to be hawkish, I will take two per cent as the real rate, while I will settle for 1.5 per cent if I am dovish,” Rajan said.
Industry was disappointed. Ajay S Shriram, president of the Confederation of Indian Industries, said RBI had enough space to cut rates even while delivering on the inflation mandate. By not doing so, the central bank might have missed an opportunity to offer a “mood elevator” and augment demand. Stock markets shrugged off the policy review and a marginal recovery in rate-sensitive stocks in late trades helped the indices recoup intra-day losses to finally end flat. The 30-share Sensex ended up 12 points at 28,517, while the 50-share Nifty ended nearly unchanged at 8,660.
Rajan did not expect RBI’s policy to be blown off course by prospects of the US Federal Reserve raising rates. While higher interest rates in the US are expected to lead to capital outflows from some emerging markets, the rupee has remained firm against other currencies, thanks to strong inflows. “At this point... we feel we are adequately buffered. That is not going to be the key factor in determining our monetary policy.”
The central bank sounded cautiously optimistic on the growth outlook. It expects lower inflation, higher profit margins and government efforts to kick-start investments to support a gradual growth recovery. RBI projected real gross domestic product growth in FY16 at 7.8 per cent year-on-year, up from 7.5 per cent in FY15. It expects Consumer Price Index (CPI)-based inflation to remain below six per cent in FY16, falling to around four per cent by August 2015, before firming up to 5.8 per cent by March 2016. The central bank reiterated its commitment to lowering CPI inflation to four per cent by March 2018.
