Signalling lower interest rates

Keki Mistry,
Vice-Chairman & MD, HDFC 

The bigger issue is that banks are not lending enough to the private sector but are parking their surpluses with RBI and, consequently, the credit off-take continues to be low.

The Annual Policy Statement assumes particular significance as the Reserve Bank of India (RBI) indicates new growth targets on various key macro parameters.

The available macro data has displayed mixed signals. There has been a distinct turnaround in certain sectors such as auto, cement and FMCG, but the Business Confidence Index continues to take a beating. While inflation based on the wholesale price index is likely to turn negative, moderation on the consumer price index has not happened, as food prices have remained high.

Regarding policy measures, as expected, given the liquidity in the system, RBI has kept the CRR and SLR unchanged. The 25-basis-point cut in both the repo and reverse repo rate was more or less in line with expectations, although it surprised the market a bit which was factoring in no change in these rates. 

Though RBI has signalled a reduction in interest rates, there is unlikely to be an immediate direct impact as banks are presently not using this window.

The bigger issue, as highlighted by the RBI, is that banks are not lending enough to the private sector but are parking their surpluses with RBI and, consequently, the credit off-take continues to be low despite ample liquidity in the system.

The flow of financial resources to the commercial sector has reduced from Rs 7,80,505 crore in FY08 to Rs 6,79,040 crore in FY09. Going forward, India Inc will be able to see a clear revival only if funds are available at lower interest rates. 

A lower interest rate regime will also augur well for consumer credit. One could be skeptical as to how much of a disincentive the reduction in reverse repo would be for banks from depositing huge amounts of money under the reverse repo window.

However, the reduction should be seen as a signal for the commercial banks to lower their lending rates so that the non-food bank credit growth target could be met. RBI presently appears to be more concerned about growth rather than inflation.

One would hope that banks would now be willing to reduce deposit rates and thereby lower their lending rates. We would need to wait and watch the impact of RBI actions, as the real impact on the economy would take some time to show, given the lag effect.