After 13 continuous spells of rate hikes and two consecutive CRR cuts RBI finally did a cut in Repo and reverse repo rate by 50 basis points. Current Repo rate stands at 8% and Reverse repo rate at 7%. RBI started hiking rates from March 2010 to control inflation which has been hurting the Indian economy like a monster. In simple economic terms rate hike was supposed to make availability of loans difficult thereby curtailing liquidity and dampening the growth which in turn would reduce the demand leading to reduction in prices followed by a lower inflation. The strategy was to control inflation by taking a hit on growth which had slowed down drastically to 6.1%. The IIP for January 2012 dropped to an all time low of 1.1%. The massive liquidity crunch led to a rally in the CD rates (1 and 3 months) which crossed 10.5% mark. Heavy borrowing by Government to finance the burgeoning fiscal deficit added to the problem. Yields of 10 yr G-sec’s soared to 8.75% and speculations were rife that the soaring liquidity crunch would take the 10 yr G-sec’s to 9%. RBI did two CRR cuts to infuse immediate liquidity in the system and bring some respite. But the crunch was to such an extent that the money infused in the system got used with just a blink of an eye. The RBI Governor finally took the most awaited step of cutting down the rate.
However this rate cut doesn’t seem to bring cheers to the slowing Indian Economy. Some reasons which could spoil the party:
- Banks do not seem to be cutting down rates immediately. Banking sector as such is reeling under heavy NPA pressure. Any lowering in rates means taking a hit on NIM’s. Also the deposit rates would be required to cut which might have an adverse affect as Banks are finding it hard to mobilize the deposits. Hence most of the Banks maintained a status quo in their base rate with some banks doing a nominal base rate cut.
- Inflation (WPI) although came down to 6.89% levels before RBI cutting the rates, the pressure still continues to be on as Food prices still do not seem to moderate. Supply chain problem remains a critical problem which continues to go unaddressed by the government.
- High level of Crude price is keeping the inflation pressure on. Also demand by Oil companies to the Government for enhancing Oil Prices could play the spoilsport. Oil marketing companies are already reeling under heavy under recoveries and are consistently demanding the permission to hike oil prices from the government. Deregulation of diesel also continues to be a mooted topic. Any negative step at this end will have severe impact down the line on inflation and growth. Crude prices are currently hovering at $120 per barrel mark whereas the growth calculations in the Fiscal Budget 2012-12 have been done assuming the crude price level of $115 per barrel.
- High fiscal deficit remains another major issue. This will lead to heavier Govt Borrowing thus keeping pressure on liquidity and yields. 10 Year G-sec Yields which went down to 8.30% after announcement of rate cut by RBI has again bounced back to 8.6 levels.
- Rupee continues to slide against the dollar keeping pressure on trade finance activities and growth. Any fall in rates will discourage the foreign investors who are already shying away from India. NRE deposit rates are at all time high of 9%+ levels to encourage dollar flow and stabilize the value of rupee.
- Slow reforms by the Govt have raised concerns about the growth of Indian Economy among the investor fraternity. Insurance, Retail FDI, Aviation, etc bills are still in limbo and no reform signals available at governments end.
RBI will have to balance between growth and inflation and take a call on its further course of action. High growth leads to high inflation whereas low growth has its own set of problems. Time will tell whether it will be cheers or tears for Economy and the common man.
However this rate cut doesn’t seem to bring cheers to the slowing Indian Economy. Some reasons which could spoil the party:
- Banks do not seem to be cutting down rates immediately. Banking sector as such is reeling under heavy NPA pressure. Any lowering in rates means taking a hit on NIM’s. Also the deposit rates would be required to cut which might have an adverse affect as Banks are finding it hard to mobilize the deposits. Hence most of the Banks maintained a status quo in their base rate with some banks doing a nominal base rate cut.
- Inflation (WPI) although came down to 6.89% levels before RBI cutting the rates, the pressure still continues to be on as Food prices still do not seem to moderate. Supply chain problem remains a critical problem which continues to go unaddressed by the government.
- High level of Crude price is keeping the inflation pressure on. Also demand by Oil companies to the Government for enhancing Oil Prices could play the spoilsport. Oil marketing companies are already reeling under heavy under recoveries and are consistently demanding the permission to hike oil prices from the government. Deregulation of diesel also continues to be a mooted topic. Any negative step at this end will have severe impact down the line on inflation and growth. Crude prices are currently hovering at $120 per barrel mark whereas the growth calculations in the Fiscal Budget 2012-12 have been done assuming the crude price level of $115 per barrel.
- High fiscal deficit remains another major issue. This will lead to heavier Govt Borrowing thus keeping pressure on liquidity and yields. 10 Year G-sec Yields which went down to 8.30% after announcement of rate cut by RBI has again bounced back to 8.6 levels.
- Rupee continues to slide against the dollar keeping pressure on trade finance activities and growth. Any fall in rates will discourage the foreign investors who are already shying away from India. NRE deposit rates are at all time high of 9%+ levels to encourage dollar flow and stabilize the value of rupee.
- Slow reforms by the Govt have raised concerns about the growth of Indian Economy among the investor fraternity. Insurance, Retail FDI, Aviation, etc bills are still in limbo and no reform signals available at governments end.
RBI will have to balance between growth and inflation and take a call on its further course of action. High growth leads to high inflation whereas low growth has its own set of problems. Time will tell whether it will be cheers or tears for Economy and the common man.
