RBI Credit Policy: interest rate hikes end

The Reserve Bank of India held benchmark interest rates constant and left liquidity untouched, and did not cut the cash reserve ratios, as was being speculated. But that was not the big takeaway from the credit policy announcements.

The central bank has indicated that it is done with interest rate hikes, given signs of moderating inflation and slowing growth, and will now shift to using interest rate cuts to jumpstart growth again.

But it has not specified a time-frame in which the reversal will start, except to say that it will revise its forecasts of growth and inflation in January, when it presents its third quarter monetary policy review.

If inflation continues to moderate and growth shows alarming signs of slippage, there is a possibility it may either cut CRR or interest rates. But if inflation flares up for any reason, and does not hover closer to the RBI’s March target level of about 7%, it may choose to hold on to rates at current levels too.

Key Highlights:

  • The cash reserve ratio at 6% and the repo rate at 8.5% are left untouched.
  • Global economic situation is a worry, with fears of a financial market turbulence and a recession in Europe. But there is no silver lining, as crude oil prices are still holding steady.
  • While IIP has shown a sharp decline, other indicators (such as the Purchasing Managers Index) too show a decline, but not as dramatic as IIP. Pricing power is declining, says the RBI, which is a significant change from its observations in previous policy statements.
  • Rabi season’s sowing indicates no change from the last year.
  • Inflation moderated to 9.1% in November from 9.7% in October. Non-food inflation increased in this period, from 7.6% to 7.9%.
  • A widening trade deficit is a concern. The RBI has already taken a series of steps on December 15 to stem the decline in the value of the rupee.
  • The government’s fiscal position is a concern for the RBI, as it has implications for inflation. Money supply has moderated, though still above RBI’s comfort level.
  • RBI expects global growth to be lower than expected in 2011 and 2012. Growth momentum is slowing down and the RBI sees risks to its economic growth forecasts. It has retained inflation projection for March 2012 at 7%.
  • The RBI has reiterated its second quarter guidance, that in view of moderating inflation, further interest rate hikes may not be needed. “From this point on, monetary policy actions are likely to reverse the cycle, responding to the risks to growth”

That is perhaps as clear a statement as one can hope to hear indicating that, barring unforeseen circumstances such as a spike in inflation, interest rates will soon start their downward climb.

Read the RBI press release here.

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