RBI hikes cash ratio for banks by 75 bps

January 29, 2010

The Reserve Bank of India (RBI) Friday hiked the cash reserve ratio (CRR) for commercial banks by an unexpected 75 basis points, in a clear bid to curb inflationary expectations in the economy.

All other policy rates were left unchanged.

The CRR, presently at 5 percent, will be hiked in two stages — 50 basis points from Feb 13 and another 25 basis from Feb 27, RBI Governor D. Subbarao told the chief executives of commercial banks in Mumbai.

“As a result of this increase in the CRR, about Rs.36,000 crore of excess liquidity will be absorbed from the system,” Subbarao added, as he presented the third quarterly update of the central bank’s monetary policy for this fiscal.

Cash reserve ratio is the minimum liquid assets banks have to retain against deposits or park with the central bank in the form of government securities.

Subbarao said the cut in excess liquidity will help anchor inflationary expectations and that the recovery process of the economy will be supported without compromising on price stability.

The unexpected hike in the cash reserve ratio saw the benchmark sensitive index (Sensex) of the Bombay Stock Exchange plummet nearly 325 points, or almost 2 percent, before staging a marginal recovery.

The central bank projected an impressive 7.5 percent growth for the Indian economy in the current fiscal even as it hiked the outlook for annual inflation rate to 8.5 percent by end-March. Earlier, it had earlier pegged the growth rate at 6 percent and inflation at 6.5 percent.

“Assuming a near-zero growth in agricultural production and continued recovery in industrial production and services sector, the baseline projection for gross domestic product growth for 2009-10 is now raised to 7.5 percent,” the central bank said.

“Keeping in view the global trend in commodity prices and the domestic demand-supply balance, the baseline projection for wholesale price inflation for end-March 2010 is now raised to 8.5 percent,” Subbarao said.

He also expected the country’s growth rate of 7.5 percent to be sustained in the next fiscal.

“As with growth, we shall formally announce our inflation projection for 2010-11 in our monetary policy in April. But on the assumption of normal monsoon and global oil prices remaining around the current level, it is expected inflation will moderate from July.”
Highlights of RBI’s third quarter monetary policy update:

- Cash reserve ratio hiked by 75 basis points to 5.75 percent in two stages

- Move to suck out excess liquidity worth Rs. 36,000 crore from system

- Bank rate retained at 6.0 percent

- Repo rate retained at 4.75 per cent

- Reverse repo rate retained at 3.25 percent

- India’s economic growth projection hiked to 7.5 percent from earlier 6 percent

- Annual inflation rate projection hiked to 8.5 percent from 6.5 percent

- Inflation risk looms larger when viewed in the context of global price movements

- Reserve Bank to monitor price situation closely and take further action as warranted

- Reduction in excess liquidity to help anchor inflationary expectations

- Recovery process to be supported without compromising price stability

- Central bank focus now on managing recovery from managing crisis