RBI’s Third Quarter Monetary Policy. CRR Raised By 75 Bps.

India’s Central Bank, Reserve Bank of India (RBI) announced its Monetary Policy on Fri, Jan 29, 2010 and decided to raise CRR by 75 bps to 5.75%.

As expected, Central bank, Reserve Bank of India has raised Cash Reserve Ratio (CRR) by 75 bps to 5.75% and keeps its policy rates unchanged as per the expectations of VMW, however the hike in CRR is well above, what we had anticipated. While the global economy is stabilizing, the growth outlook has been revised. Economies have rebounded steadly after the significant government intervention. Over the past two years, RBI has reduced the policy rates and CRR in response to the economic crisis to infuse the sufficient amount of liquidity into the market to emerge from the dried liquidity situation and to provide the ample credit facility to the economy to impede the greater risk of economic trouble for the second fastest growing economy in the world. The general trend of CRR (shown below), shows, how the central bank has responded to the economic trouble. During the reign of YV Reddy, CRR jumped to 9 per cent in Aug 2008 just before the bankruptcy of Lehman Brothers to absorb the additional liquidity in order to prevent the Indian companies (banks & companies) to invest outside into the risky assets.

 

After few days, Duvvuri Subbarao has taken over the charge of RBI and he decided to reduce interest rates by more than 400 bps, when the financial crisis was at peak. Overall, the RBI has predominantly managed the situation mightily and helped the Indian companies to grow even in a gloomy economic period to a certain extent. Now this time, RBI raised the CRR as the Inflation rate is again at the alarming levels. India’s spiralling money supply over the past few months has grew by more than 22 per cent which is again the another matter of concern, which the RBI is taking it seriously to contain the the rise in prices. Rise in CRR would not likely affect the cost of borrowing as the banks are sitting on ample liquidity and shifting to the demand deposits to reduce their cost. Bank’s CASA , Time Deposit ratio has been shifted very aggresively post economic recession to reduce their cost. However, over the next few quarters, RBI may hike the Repo rate and Reverse Repo rate if the inflationary pressure continues.

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(SA) RBI Revised Its Monetary Policy; Reduces Repo Rate & Reverse Repo Rate.

Reserve Bank of India modifies its monetary policy. RBI Governor Duvvuri Subbarao has slashed CRR and policy rates several time since he took the charge.
 
Banks are under significant liquidity pressure and it is evident that the banks are now withdrawing money under the central bank’s Liquidity Adjustment Facility (LAF) or Repurchase Agreement (Repo). Is the RBI cogitating the another rate hike to contain inflation under the compressed liquidity situation? Find out more.
The Reserve Bank of India.

The Reserve Bank of India Headquarters in Mumbai.

On Tuesday Apr 21, 2009, India’s Central bank – Reserve Bank of India has announced its Annual Policy on Macroeconomic and Monetary Developments. RBI has slashed its policy rates by 25 bps. BPS is Basis Points which should be defined by One Hundredth of a one percentage point 1/100th of 1%.

After the reduction in policy rates, RBI’s Repo rate stands at 4.75% and Reverse Repo rate stands at 3.25%. Repo means repurchase agreement in which banks sell government securities to the RBI in exchange for cash and agrees to repurchase those securities from the RBI at a later date which is the Reverse Repo Rate. While addressing to media, RBI Governor stresses that the bank should pass-on the reduction benefits to the consumers. India has witnessed the steep fall in demand for a credit.

RBI Reference Rate As on Apr 2009

Bank Rate 6%
Repo Rate 4.75%
Reverse Repo Rate 3.25%
Cash Reserve Ratio (CRR) 5%
Statutory Liquidity Ratio (SLR) 24%
Prime Lending Rate (PLR) 13%

 

The Indian Economy has also got affected by the economic crisis in developed countries. Since mid of Sep 2008, when the major financial institutions were collapsed, the India’s central bank has reduced its policy rates and CRR by number of times and SLR by 100 bps since than to prop the Indian economy up. India’s money supply dropped to 18.4% in compare to 21.7% last year which signifies the deceleration in credit market and the capital inflows. In the last few months, Indian Rupee has depreciated by more than 18%  and likely to depreciate further due to higher risk aversion in Rupee denominated assets, acute deleveraging due to falling exports which resulted fall in corporate earnings and strong demand for US Dollar due to huge amount of selling in equity markets. However, since Mar 09, financial markets have performed better in compare to its peers and other developed markets due to attracting and cheap valuation of the India Incorporated. By taking these factors in mind, RBI is taking precise decision on a periodic basis to respond to the global financial crisis and to make a favorable economic environment. India’s external debt and national debt has reached the level of 49% to the annual gross domestic product, however the strong foreign reserves would ensure the external stability. 

This research has been Superannuated by the VMW Research Team. This research might not be applicable in today’s economic context.

(SA) Interim Budget 2009 Review: Fiscal Deficit Swells to 8% to the GDP.

Please Read the latest report on India Budget 2009.
India’s Fiscal Deficit swells to 8 per cent of the annual gross domestic product, govt spending likely to rise and tax rate cut are less likely. However, Govt has reduced Excise Duty and Service Tax to shore-up the economy.
 
 
Pranab Mukherjee

India's External Affairs Minister (Foreign Minister)

 

Then Minister of External Affairs – Mr Pranab Mukherjee, who was in charge for Finance Ministry also for a while, has announced the Pre-Election Interim Budget 2009 for the Fiscal 2009-10. Markets and the corporate world has anticipated lot of changes and reframing of policies to weather the current global economic downturn however, the Interim Budget has banished all the factors to support the Indian economy. Interestingly, he has pointed out that the major policy announcement would take place post election in the Regular announcement of the General Budget which was held in May, 2009. 

In his budget speech, he merely stressed upon the Rural Development by expanding the Rural Infrastructure Development Fund (RIDF) from Rs. 5,500 Crores ($1.13 Billion) for the year 2003-04 to Rs. 14,000 Crores ($2.87 Billion) for the year 2008-09. Apart from that, he has discussed, exactly what the UPA Govt have did in the last 5 years of their tenure. On the most important Financial and Tax reforms front, he has left this portion for the Regular Budget announcement. He said the, tax rates must fall in these stressful economic times, while the majority of industry has expected positive changes on the tax front and the ailing Real Estate and Infrastructure sectors had anticipated for support from the Government. Now, the RBI is the final ray of hope until the General Elections in a way of reduction in policy rates by at least 100 bps. 

India’s Finances 

Since the last Year’s Budget announcement, the Indian Govt’s finances have totally shaken up. Three major developments like provision for pay revision (Sixth Pay Commission), loan waiver and finally National Rural Employment Guarantee Act (NREGA) and various other subsidies has led to significant intensification of the India’s Fiscal Deficit. Initially, Govt had pegged it at 2.1% of the India’s GDP. This Fiscal Deficit has to be rise for sure as the Govt has announced two different Stimulus Packages in the last couple of months to stimulate the economy and the domestic demand, extra spending under NREGA, Subsidy on Oil and Fertilisers and most importantly the lower revenue/receipt from Taxes. Government is also expecting lower tax revenue in this fiscal year due to global economic downturn. The abstract of “Demand for Grant” is given below:  

  • Pay & Pension Revision: Rs. 28,505 Crores ($5.85 Billion)
  • Oil Subsidy (Oil Bonds): Rs. 65,942 Crores ($13.54 Billion)
  • Fertilizer Subsidy (incl Bonds): Rs. 64,866 Crores ($13.32 Billion)
  • Food Subsidy: Rs. 11471 Crores ($2.36 Billion)
  • NREGA: Rs. 25,000 Crores ($5.13 Billion)
  • Farmer’s Debt Relief: Rs. 15,000 Crores($3.08 Billion)
  • Transfer to States: Rs. 12,741 Crores ($2.61 Billion)

The total cost of those subsidies (including bonds) and other packages is Rs. 223,525 Crores ($45.9 Billion) which means, the it works out to 4.4% of the India’s GDP. If the Govt adds the reduction in tax collections, it could cost 1 per cent of GDP. According to the Economic Advisory Council (EAC), the Fiscal Deficit in the Union Budget had been placed at 2.5% to which, the addition of 4.4% and 1% to this number would definitely raise the total to nearly 8% of the GDP. Credit Rating agencies like Standard & Poor’s (S&P), Moody’s and Fitch are closely watching the India’s fiscal shortfall and this would definitely force them to downgrade the India’s Sovereign Debt rating. On Tue, Feb 24, 2009 S&P has reaffirmed the India’s rating to BBB-, means downgrading India from “Stable” to “Negative” outlook. 

What would happen, if the Fiscal Deficit rises? It means, that the Government will borrow extra to finance their expenditures (planned or non-planned). We won’t evade the higher monetary inflation. If the Government borrows extra for its spending, then the level of money supply will rise because it will force the Reserve Bank of India (RBI) to print more money – which would lead to the higher inflation at least in the medium term. Currently, the India’s national debt is 59% of the annual gross domestic product (Central and State Government combined). At VMW, we have earlier discussed about the deflation in the Developed Economy, however we’ve ruled out the Headline Deflation in India. Maybe the short term, Government borrowing will prevent the further fall in inflation. There is also a possibility of higher interest rates in the long run. 

As a result, there is a limited room for the Government to ramp up the spending without causing the structural harm to the economy. That’s why the Government is reluctant to cut tax rates and in the near future, Government may also consider reducing subsidy burden on Oil and Fertiliser by 1.6% of the GDP and this Interim Budget proves merely a performance review of the Government. 

Please Note: All figures in US Dollar (USD) terms are converted at Indian Rupee (INR) 48.70 aganist the USD. 

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RBI Cuts Policy Rates And CRR To Enable Banks To Provide Credit At Cheaper Rates Meanwhile, Govt Announced The 2nd Stimulus Package.

RBI cut Repo rate, Reverse Repo by 100 bps to 5.5% and 4% respectively on the other side, there is reduction of 50 bps on CRR to 5%. CRR cut to release Rs. 20,000.00 Crores ($4.08 billion) on the other side, Govt has announced the second stimulus package to defend the economy from the global downturn. Click here to read the latest RBI Action on Policy Rates.

Reserve Bank of IndiaAs the global financial situation is continue to exacerbate and the official announcement of Recession by the advanced economies like the United States, Japan and the Euro Zone; the Reserve Bank of India (India’s Central Bank) is aggressively responding to the crisis to maintain the sound banking system via adequate amount of liquidity and sustainable economic growth to achieve targets. on 2nd Jan 2009, RBI has cut Repo rate and Reverse Repo rate by 1 percentage point to 5.5% and 4% respectively and Cash Reserve Ratio (CRR) by 50 bps to 5%. Now, its assume that the reduction in policy rates and CRR of central bank would make possible for the banks to cut their lending rates in order to provide cheaper credit.  On the same day, Deputy Chairman of Planning Commission, Mr. Montek Singh Ahluwalia has also announced the second stimulus package to the Indian Economy to weather the global financial crises with success. The second stimulus package would allow the companies to borrow more from abroad through ECB and FIIs to invest more in the country. This package also gave attention to the Housing sector and Infrastructure sector by providing liquidity of Rs. 25,000.00 Crores ($5.21 billion) through investment grade papers. In order to encourage infrastructure projects in the country, Govt has allowed the India Infrastructure Finance Company (IIFC) to raise upto Rs. 10,000.00 Crores ($2.08 billion) through tax free bonds for refinancing the bank lending of longer maturity to eligible infrastructure bid based Public Private Partnership (PPP) projects. This will mainly enables to fund the projects like Highway and Port projects.

Apart from that, to protect the Micro, Small and Medium Entreprises (MSME) from the economic downturn, guarantee cover under Credit Guarantee Scheme have been extended from Rs. 50 Lakhs to Rs. 1 Crores with a guarantee cover of 50%.

VMW Definitions:

  • Repo Rate: is a rate at which, RBI repurchases Govt Securities from the commercial banks to expand the money supply in exchange of cash.
  • Reverse Repo Rate: Vice versa of Repo rate means to sell Gov’t bonds in exchange of cash.
  • CRR: is a Cash Reserve Ratio. Banks kept some portion of their deposits with the RBI at a prescribed reserve rate.
  • SLR: is the Statutory Liquidity Ratio at which banks need to kept short term securities such as Cash, Gov’t Securities, Precious Metals like Gold and Silver and other short term securities.
  • BPS: is Basis Points which should be define by One Hundredth of a one percentage point (1/100th of 1%). It is commonly used in expressing differences of interest rates.

If you need further clarifications on these Finance terms, send an email at contact@vishalmishra.com

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Banks Cutting Interest Rates in order to make Cheaper Home Loans.

However, banks are only announcing the rate cut on loan upto Rs. 2.0 million. ($42,000). No relief for the existing borrowers.  
A Construction site in New Delhi.

A Construction site in New Delhi.

Subsequent to the recent RBI’s rate cut announcement, the banks are responding and cutting down the interest rates on home loans by 50 bps to 100 bps.The interest rates are vary from bank to bank. If the borrower seeking for the home loan of Rs 2,000,000.00 (Rs. 2 million) or below, then the banks are offering loan at the rate between 9.5% and 13% on floating rate and fixed rate respectively. However, the above rates are only applicable on new home loan application for the loan of upto Rs. 2 million. (Rs. 20 lacs).

Since the property prices in Tier 1 cities are not available in the range of Rs. 2 million or so, the rate cut announcement by the banks are inappropriate and specially for the existing borrowers. Banks are only giving lower interest rates on cheap home loan and only to the new customers. The existing customers are still unhappy and didn’t get any benefit from the RBI’s Repo rate cut and Reverse repo cut. That’s why, the developers are morose too with the Indian banking Association’s (IBA) move. Many developers are against with the banks’ decision to not allowing the cheaper loan on more than Rs. 2 million.

The big question arises that, Why banks are averse to offer cheaper home loan across the board? When the interest rates went up in the last few months, then banks have raised the rates on all type of loans, whatever the loan size, it doesn’t matter. Now the RBI is cutting its benchmark interest rates, banks are not doing so. Why?

Many Banks have argued that the deposit rates are above the RBI’s benchmark interest rates and they cannot cut the borrowing cost unless the deposit rate soften. That is the reason the banks aren’t cutting down the interest rates. According to the PSU banks’ balance sheet, over 80% of home loan assets comprise the loan portfolio of Rs. 2,000,000.00. In order to cut Prime Lending Rate (PLR, the rate at which banks lend to their best customer), the banks need to cut down their deposit rates, so that the lower cost of credit will available to everyone. RBI had cut the Cash Reserve Requirement (CRR) by 350 bps in the last 3 months to improve the liquidity in the system however, the banks’ main source of liquidity is from the deposit from the customers and they cannot cut deposit rate as they don’t have enough liquidity. Main sectors are also suffering from the higher interest rates. In addition to the real estate sector, SMEs are also facing the burden of higher interest rates. Recently the World Bank have agreed to lend upto $14 billion (Rs. 67,000 Crores) in the next three years, which would help to recapitalize the state run banks. As the liquidity dried up, the banks are unable to access long term financing in order to focus on Real Estate, Small and Medium Scale Entreprises (SMEs) and infrastructure.