RBI not in a hurry to raise interest rate

Banks' balance sheet rescue package on the cards.

Reserve Bank of India Governor Y V Reddy dropped broad hints at a high-level bankers' meeting on Wednesday in Mumbai that the central bank is not in a hurry to tighten the monetary policy.

At the meeting, Reddy reportedly emphasised that the recent upward movement in yields on the government bond had been more of a psychological phenomenon and was not driven by fundamental factors.

Reddy also pointed out that the rate of inflation based on the consumer price index (CPI), hovering around 3.02 per cent, had not risen. At the meeting, Reddy also referred to some countries which had tightened their monetary polices in a hurry, but the move proved counter-productive.

Bankers, who attended the meeting, got the impression that the RBI will not raise interest rates for the time being. The biggest risk to the accommodative monetary policy, however, remained the rising global rates. If the rates rise too fast, the RBI might have to change its stand, sources who attended the meeting said.

The central bank will soon come out with a string of measures to protect commercial banks' balance sheets from the impact of the rising interest rates.

The RBI is expected to cap the maturity of the fixed rate-dated securities to be floated in the rest of the current fiscal to around three to five years.

All long dated securities to be issued in the rest of the current year are expected to be either floating rate bonds or capital indexed bonds. This is to ward off the impact of a reversal in interest rate movements.

The Reserve Bank is also expected to relax the provisioning norms for state government-guaranteed loans. Till recently, the classification and provisioning requirements in respect of state government-guaranteed exposures were linked to the invocation of the state government guarantee.

The RBI has delinked the requirement of guarantee invocation and asked banks to treat these loans as ordinary loans. This way, these loans will be classified as sticky assets, if the interest is overdue for 180 days.

But this relaxation is only for the current year. From next year, the RBI wants to tighten the norm further and asked banks to classify them as sticky if the interest is not paid for 90 days.

The central bank may also allow banks to raise the proportion of bonds held in the 'held to maturity' category, with the imediate implication that banks will not be required to mark to market this basket in accordance with the ruling securities prices. At present, the holdings in this category are capped at 25 per cent of the total portfolio, but some banks have kept it at a lower level.

The package of measures will help commercial banks to protect their bottomlines, which are being threatened by the rise in bond yields and fall in prices (yield and prices move in opposite direction).

The yield on the 10-year bond, which was veering around 4.94 per cent in October last year, zoomed to 6.50 per cent this month. It is now hovering around 6.25 per cent.

With the recent lowering of the yield, some of the banks have manged to substantially cut their notional losses substantially.