The Reserve Bank of India (RBI) on Tuesday raised the repurchase (repo) rate at which it lends to commercial banks by 0.25 percentage point to 7.25 per cent, sending a signal to banks that they must lend carefully and boost deposits.
With easy lending by banks raising concerns, Governor Y. V. Reddy’s mid-year credit policy that sets the tone for the rest of the financial year could make borrowing costlier, but the central bank left many of the other rates unchanged, showing its conservatism largely in signal than substance.
RBI kept unchanged the benchmark reverse repo rate (at which banks are paid for parking their funds overnight with RBI), the Bank Rate and cash reserve ratio (CRR).
RBI also raised its gross domestic product (GDP) growth for the current 2006/07 fiscal year to 8 percent, at the top end of its previous 7.5 to 8 per cent band.
“Still we want to be conservative in our estimates though there are indications that the economy would do much better," Reddy told reporters after the policy statement.
He said the repo rate raise will not have any immediate impact on deposit or lending rates but was intended to address demand pressures.
Commenting on the repo rate increase, Ajay Mahajan, president-financial markets of Yes Bank said, “By this the RBI asked the banks to be self sufficient, and not to knock its doors for liquidity, frequently.”
Reddy also sought to allay fears on a rise in prices, saying there were no clear signals yet that inflationary pressures were mounting. But he did reiterate that a global rise in crude prices had not yet been passed on to Indian consumers, implying a hidden potential for inflation.
“Despite the recent easing, oil prices at current levels may still contain some elements of a ‘permanent’ component which is yet to be matched by full pass-through (to customers)… ultimately, one day it has to be passed on,” Reddy said.
Stating that the Consumer Price Index (CPI), which is hovering closer to 7 per cent rise over last year, would have been a better indicator than the Wholesale Price Index (WPI), Reddy said that the RBI was working towards benchmarking its inflationary measure to CPI.
The governor, talking of possibilities that the economy may be overheating, said that at a time when the economy was growing rapidly, it was important to see that it will not trip up.
“We are not worried that you are running apace but we are alerting about the precautions to be taken,” Reddy said. On the reasons for pushing ahead with some of the recommendations
of the Tarapore committee on Capital Account Convertibility (CAC), the governor said that this was made possible by a somewhat stable external situation backed by favourable balance of payments (BoP).
The RBI, helped by surging foreign exchange reserves, also increased the ceilings for overseas investments by mutual funds and overseas remittances by resident Indians. It also raised the annual limit for investments in governments securities by foreign institutional investors (FIIs).
Industry is set to benefit from several CAC related initiatives, particularly in the form of higher limits for raising external commercial borrowings (ECBs) and relaxation in facilities offered by banks in terms of foreign currency guarantees and loans.