| RBI Credit Policy – Highlights
MONETARY MEASURES
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| a. | The policy rate i.e. Repo Rate and the CRR kept unchanged, at the current level of 8% and 4.75% respectively. |
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| b. | Consequently, the reverse repo rate under the liquidity adjustment facility (LAF) and the marginal standing facility (MSF) remains unchanged at 7% and 9% respectively. |
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| c. | The statutory liquidity ratio (SLR) has been reduced from 24 per cent to 23 per cent of their Net Demand and Time Liabilities (NDTL) with effect from the fortnight beginning August 11, 2012.
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| RATONALE BEHIND THE PAUSE IN POLICY ACTION
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| a. | Sticky Inflation - After moderating for a short period during December-January, headline WPI inflation edged up again beginning February 2012 and has remained sticky, above 7%, on account of increase in food prices, increase in input costs, and upward revision in prices of some administered items such as coal. |
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| b. | Supply Constraints - Headline inflation has persisted even as demand has moderated and the pricing power of corporate weakened. Non-food manufactured products inflation has also not declined to the extent warranted by the growth moderation. This reflects severe supply constraints and entrenchment of inflation expectations. |
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| c. | Liquidity to Productive Sectors - Liquidity conditions play an important role in the transmission of monetary policy signals. Although the situation has eased significantly in the recent period, it is necessary to ensure that liquidity pressures do not constrain the flow of credit to productive sectors of the economy. The reduction in SLR is expected to ensure that the liquidity pressures do not constrain the flow of credit to the productive sectors of the economy.
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| INFLATION PROJECTION – REVISED UPWARDS FROM 6.5% TO 7.0%
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| In the April Policy, the Reserve Bank made a baseline projection of WPI inflation for March 2013 of 6.5%. This was based, in part, on an assumption of normal monsoon. The deficient and uneven monsoon performance so far will have an adverse impact on food inflation. International crude oil prices remain elevated and the pass-through of rupee depreciation to import prices, continues to put upward pressure on domestic fuel price inflation. The decline in non-food manufactured products inflation has not been commensurate with the moderation in growth. Input price pressures on account of exchange rate movements and infrastructural bottlenecks in coal, minerals and power may exert upside pressure on non-food manufactured products inflation. Keeping in view the recent trends in food inflation, trends in global commodity prices and the likely demand scenario, the baseline projection for WPI inflation for March 2013 is now raised from 6.5%, as set out in the April Policy to 7.0%
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| M3 AND CREDIT GROWTH PROJECTION - UNCHANGED
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| With nominal growth remaining broadly at the level envisaged in the April Policy, monetary aggregates are expected to move along the trajectories projected in the Monetary Policy Statement 2012-13. Accordingly, M3 growth projection for 2012-13 has been retained at 15% and the growth in non-food credit of Scheduled Commercial Banks (SCB) at 17%.
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| GDP GROWTH PROJECTION – REVISED DOWNWARDS FROM 7.3% TO 6.5%
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| In the April Policy, the Reserve Bank had projected GDP growth for 2012-13 at 7.3% on the assumption of a normal monsoon and improvement in industrial activity. But the monsoon has been deficient and uneven so far. Also, data on industrial production for April-May suggest that industrial activity, despite some recovery, remains weak. In addition, several risks to domestic growth have intensified. First, global growth and trade volume are now expected to be lower than projected earlier. Given the greater integration of the Indian economy with the global economy, this will have an adverse impact on growth, particularly in industry and the services sector. Second, reflecting the lagged impact of weak industrial activity and global slowdown, the services sector growth is also expected to slow down. On the basis of the above considerations, the growth projection for 2012-13 is revised downwards from 7.3% to 6.5%
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| FUTURE TRAJECTORY OF THE POLICY ACTIONS
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| a. | While the primary focus of monetary policy remains inflation control, in the event of constraints to growth are addressed through policy actions by the Government, the RBI will suitably adjust its monetary policy stance. |
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| b. | The Reserve Bank will respond to liquidity pressures, including by way of open market operations (OMOs). |
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| c. | In the event of external shocks. The Reserve Bank stands ready to respond to any such shocks swiftly, using all available instruments.
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| IMPACT ON THE BOND MARKET
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| Government bond yields have reacted adversely to the policy action, with the 10-yr benchmark moving higher by almost 10 bps to 8.22%. With the system already holding SLR securities in excess of the mandated norm (close to 30.0% for the fortnight ending July 13,2012), the direct impact of the SLR cut on liquidity could be limited in the near-term. The impact of the SLR cut is likely to be more pronounced on short-term interest rates with the overnight call rate premium over the repo rate shrinking over the coming days. While RBI has stated that it will resort to OMO buybacks if the liquidity situation so warrants, the same may not happen in the next two months given the fact that liquidity is likely to remain easy. As a result, the pressure on the long-end of the curve may continue in the near term, as more supply hits the market over August- September, 2012. Source: TMF Best Regards Prakash Nair |
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