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Monetary Policy: Will banks toe RBI's line? - Views on News from Equitymaster
 
 
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  • Apr 21, 2009

    Monetary Policy: Will banks toe RBI's line?

    As against expectation of a status quo with regard to policy moves, the Reserve Bank of India (RBI) chose to tread in line with the market demand of further cutting down interest rates. In its annual review of the monetary policy for 2008-09 released today, the central bank exercised its power to reduce the benchmark repo and reverse repo rates by 0.25% each and encouraged banks to augment their credit growth rates.

    It may be noted that monetary management during the last fiscal (FY09) was dominated by the response to the spillover effects of global financial crisis and the need to address slackening of domestic demand conditions. As it has pointed out in its statement, the RBI had to provide foreign exchange liquidity to meet the demand from importers and contain volatility in the foreign exchange market arising out of capital outflows by foreign institutional investors (FIIs). This had an overall contractionary effect on rupee liquidity.

    In its statement of 'Macroeconomic and Monetary Developments' released yesterday, the RBI also articulated its concerns over the imbalance between the components of receipt and expenditure of the central government which had a bearing on interest rates.

    During FY09, the growth in non-food bank credit decelerated from a peak of 29% YoY in October 2008 to 17.5% YoY by March 2009. This was lower than the 23% YoY growth clocked in FY08 as also the RBI's projection of 24% YoY for FY09. While there was an overall reduction in credit appetite, corporates also shifted their demand to domestic credit as the external sources of funding dried up.

    Nevertheless, the RBI's half a dozen rate cut measures so far have not had the desired impact on the prime lending rates of several private sector and foreign banks. The PSU banks which were more proactive in responding to the RBI's cues largely outperformed their private sector and foreign peers in terms of incremental lending. Their non food credit portfolio grew 24% YoY this fiscal as against 9% and 2% respectively for private sector and foreign banks. Overall the sectoral flow of credit until February 2009 was the highest to real estate (61% YoY) followed by NBFCs (42% YoY) and industry (26% YoY).

    The central bank has, however, reiterated that notwithstanding the contraction of global demand, growth prospects for India remain favourable compared to most other countries. While public investment can play a critical role in the short-term during a downturn, private investment has to increase as the recovery process sets in. A major macroeconomic challenge at this juncture is to support the drivers of aggregate demand to enable the economy return to its high growth trajectory. The RBI's rate cut move therefore stand well justified. Now, it is for the banks to act.

     

     

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