The Reserve Bank of India (RBI) today signalled a further reduction in interest rates by reducing the repo and reverse repo rates by 100 basis points each and announced a host of other measures to rejuvenate growth and credit flow.
From Monday, the repo rate, the rate at which RBI lends to banks, will fall to 6.50 per cent, the lowest since June 2006. The reverse repo rate, the rate at which the central bank absorbs surplus liquidity, will drop from 6 per cent to 5 per cent, the lowest in three years. One basis point is equal to one-hundredth of a percentage point.
The latest monetary stimulus from the central bank — decoupled from what was expected to be a joint RBI-government growth boost — provides a special dispensation for banks to encourage restructuring of loans and check bad debt.
Real estate was in sharp focus, with RBI deciding to allow banks to treat restructured loans extended to companies in this sector as a “standard account”, instead of making higher provisions by classifying them as non-performing assets, or NPAs.
The booster given to housing finance companies, or HFCs, will help the real estate sector by making loans cheaper. This will help real estate companies clear unsold properties.
RBI has proposed a Rs 4,000 refinance window for National Housing Bank. In addition, advances from banks that are used by HFCs to offer home loans of up to Rs 20 lakh to individuals will now carry a priority sector tag.
The move will encourage banks to lend to HFCs, many of whom are facing a severe crunch as the cost of funds has gone up. So far, the priority sector classification was available for loans up to Rs 5 lakh, but now it will cover a majority of loans.
There were initiatives for companies that had used foreign currency convertible bonds (FCCBs) to raise resources and steps for small and medium enterprises to access funds at a lower cost. For exporters, with overdue bills of up to 180 days, RBI decided to link the interest rate to the benchmark prime lending rate.
The FCCB benefit is expected to help Indian companies retire debt at a cheaper rate and, in the process, reduce their borrowings. Companies that use their rupee resources and get a discount of up to 25 per cent of the book value of the bonds can buy back up to $50 million of the redemption value with its approval. Those using their own foreign exchange resources and getting a discount of at least 15 per cent of the book value can go ahead without having to seek RBI’s approval.
In a statement, the finance ministry said the scheme would be open till March 31, 2009, but the bonds could not be reissued or resold. The companies will need to open an escrow account to ensure that the funds were used only for the buyback.
RBI governor D Subbarao, however, indicated that he was not in favour of a further relaxation in the guidelines on external commercial borrowings, a demand of non-banking finance companies.
| MOVE | IMPACT |
| Repo rate reduced by | Banks may cut deposit |
| 100 bps to 6.5 per cent | rates by up to 100 bps, lending rates by 50-75 bps |
| Reverse repo rate cut from 6% to 5% | Signal to use money for lending, not parking with RBI |
| Rs 7,000 crore refinance for Sidbi to boost credit flow to SMEs | Cost of funds for SMEs to fall |
| Rs 4,000 crore facility for National Housing Bank | Cost of funds for housing finance companies (HFCs) to fall |
| Banks can classify as priority sector lending loans to HFCs for on-lending to individuals up to Rs 20 lakh | Cost of funds for most HFCs to fall 100 bps, shot in the arm for real estate |
| MOVE | IMPACT |
| Special regulatory dispensation for banks restructuring loans | Will encourage banks to restructure more loans, contain NPAs |
| Interest rate on overdue bills to be 250 bps lower than BPLR | Interest cost for exporters will fall |
| Companies can approach RBI for buyback of FCCB using rupee resources if the discount is at least 25 per cent of the book value; can prematurely buy back FCCBs using their foreign currency reserves without RBI approval if the discount is at least 15 per cent | Will help companies redeem a part of the FCCB outstanding at a cheaper rate, lower debt on their balance sheet |
| Illustration: BINAY SINHA, Graphic: RAJAT BARAN | |
The moves announced by RBI today are expected to help companies facing a cash crunch access funds at a lower cost and help the economy grow faster. The primary liquidity made available in the system is estimated at over Rs 3,00,000 crore.
The governor said at a press conference that the rate cuts "should result in a reduction in the marginal cost of funds to banks and enable them to improve the flow of credit to productive sectors of the economy on viable terms”.
In recent weeks, RBI has announced a slew of measures, including reductions in the repo rate and also in the cash reserve ratio, or CRR, which is the proportion of deposits that banks set aside.
While maintaining that the central bank will watch the situation closely, “given the uncertain outlook on the global crisis”, Subbarao and Deputy Governor Rakesh Mohan said the liquidity in the system was sufficient and banks had not used the facilities made available.
The governor said credit demand had been showing signs of slowing down in the last few weeks. Credit growth was estimated at 27 per cent at the end of November 21. In addition, he said business confidence had been affected and corporate margins were under pressure. “Yes, there is a downturn and it is our intent to arrest the downturn and revive the growth momentum,” Subbarao said.
The signals of a slowdown are evident from the 12 per cent drop in exports during October, the first in seven years, and from the 7.6 per cent growth in the gross domestic product in the first half compared with 9 per cent in the last three financial years. Industrial growth is expected to fall further in October.
The central bank was encouraged to cut rates by the falling inflation. Mohan said Friday’s decision to lower petrol and diesel prices would result in a 40-45-basis-point dip in inflation, which was estimated at 8.4 per cent for the week-ended November 22.
