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RBI wants banks to share costs of uncertainties

At a time of hardening interest rates scenario, the Reserve Bank asks market participants such as banks to share costs of uncertainties.

business Updated: Jul 02, 2008 21:24 IST

At a time of hardening interest rates scenario, the Reserve Bank has asked market participants such as banks to share costs of uncertainties.

"We believe that market participants should be willing to share some costs of uncertainties," RBI Governor YV Reddy said while pointing out that the difference between the rates at which banks borrow and lend to the central bank has increased following uncertain times.

While the difference between the short term lending rate (repo) and short term borrowing rate (reverse repo) was lowered from 1.5 per cent to one per cent when the times were good, it has now widened to 2.5 per cent, "reflecting greater uncertainties", Reddy said in his address at Basel in Switzerland.

To tame the soaring inflation, the Reserve Bank has been raising Repo rate, which has now gone up to 8.5 per cent, but has left the reverse repo rate untouched at six per cent for quite some time.

The RBI has also raised the mandatory reserves of banks with the central bank by 1.25 per cent in various phases in recent times to suck out excess liquidity from the system.

"We use both liquidity and interest rate instruments. A dynamic balance is evident from the spread between the repo and reverse repo rates, which is enlarged during times of uncertainties," he said.

The RBI's move has put pressure on interest rates as a result of which major lenders like SBI, HDFC Bank, ICICI Bank, PNB have raised their lending rates.

Reddy said RBI has taken preemptive actions by tightening money supply since 2004 to moderate early signs of overheating.

He said the underlying demand conditions warranted several interest rate and liquidity measures in recent weeks.

The Governor said the RBI does not treat oil prices entirely as a shock, but focused on inflation management.

Reddy said RBI's regulations and policies are focused on the common man.

"This is, for example, reflected in our approach to transparency by the industry, the ombudsman mechanism, the setting up of Banking Codes and Standards Board of India, guidelines on recovery agents etc," he said.

The focus on common man, Reddy said, enhances the legitimacy of the RBI in public eye vis-a-vis market intermediaries.

He said the Reserve Bank wanted to protect the banking system from possible risks in capital and housing markets, though it did not take any view on asset prices in these two markets.

As if indicating towards the risks associated in the housing market, Reddy said, "In this regard, the nature of the markets is also important, for example, the housing markets in India are less than liquid."

In a bid to cool down the real estate sector, the central bank has tightened provisioning norms or enhanced risk weights associated with this sector from time to time.

However, in the annual policy the central bank had relaxed the risk weightage in the housing sector for home loans up to Rs 30 lakh.