Monetary Policy Tightened Again in India

July 27, 2010

The Reserve Bank of India raised interest rates for the second time this month, lifting its key borrowing repo rate by an as-expected 25 basis points to 5.75% but ratcheting its reverse repo rate up by an unexpectedly large 50 basis points to 4.5% in hopes of enticing commercial banks to keep more funds at the central bank.  Earlier increases of 25 basis points had been implemented on March 19, April 20, and July 2 of this year.

During the world recession, the repo rate had been slashed from a peak of 9.0% to 4.75% in six steps of 100 bps each in October 2008, December 2008, and January 2009, 50 bps each in November 2008 and March 2009, and one final 25-bp move in April 2009.  Today’s hike was the fourth one and leaves the repo rate at 5.75%, still 325 basis points below the previous cyclical peak.

Many central banks are raising rates simply as a return to normal settings, but India has a genuine inflation threat.  In taking today’s action the RBI revised projected wholesale price inflation for the year to March 2011 higher to 6.0% from 5.5% and projected GDP growth to 8.5% from 8.0%.  Food prices have exceeded 10% for some time, and overall consumer prices jumped 13.9% in the year to May.  A statement from officials spoke of the need to focus on inflation containment and anchoring price expectations.  Real GDP expanded by 8.6% in the year to 1Q10, and industrial production was 11.5% greater in May than a year earlier.

RBI officials also announced that interest rate decisions will henceforth be made every six weeks instead of once a quarter.  Accordingly, the next review is scheduled for September 16.

Copyright Larry Greenberg 2010.  All rights reserved.  No secondary distribution without express permission.



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