Reserve Bank of India Tweaks a Reserve Requirement but Leaves Repo Rate Unchanged at 8.0%

July 31, 2012

A statement from Indian monetary officials released after the latest quarterly economic review

  • Left key interest rates steady.
  • Reduced the Statutory Liquidity Ratio (SLR) to 23% from 24% effective August 11.  The cash reserve requirement stays at 4.75%, however.
  • Modified its 2012 projections for both GDP growth and WPI inflation.
  • Upheld the primacy of containing inflation and vowed to reduce inflation expectations.

On April 17, the repo lending rate was cut by 50 basis points to 8.0%, while the reverse repo borrowing rate was sliced to 7.0% from 7.5%.  These wee the first reductions since April 2009 and surpassed expectations at the time of cuts of 25 basis points.  425 basis points of interest rate reduction was undertaken in the Great Recession.  Thirteen subsequent rate increases were totaling 375 bps were undertaken from March 2010 to October 2011.

Even though officials expressed satisfaction with improved liquidity conditions since the last review, they defended the vote today to  lower the SLR  as follows:  “the reduction of SLR is expected to ensure that liquidity pressures do not constrain the flow of credit to the productive sectors of the economy. This will allow banks to shift their portfolio in favor of the private sector.”

Economic growth in fiscal 2012-13 had been projected at 7.3% but was today cut to 6.5%.  GDP increased only 5.3% in the year to 1Q12, down from 9.2% in the previous statement year.  In spite of this deceleration, officials also increased projected WPI inflation to 7.0% from 6.5%.  They have downsized their notion of India’s potential GDP rate, that is the speed-limit above which inflation would accelerate.  And they have concluded that the level of GDP is only slightly below the potential GDP trendline.  As a result of this narrow output gap, “demand pressures on inflation can re-emerge quite quickly, exacerbating the existing supply pressures.”  Rupee depreciation is another reason mitigating against a further cut of the key interest rates.”

Copyright 2012, Larry Greenberg.  All rights reserved.  No secondary distribution without express permission.



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