July 2013

Why RBI has hiked the Base Rate on Jul 15 & Implications


Reserve Bank Of India (RBI) announced several measures day before yesterday late evening to tighten liquidity in the system and arrest depreciation of rupee.  Why RBI wants to tighten liquidity and why the urgency.

RBI had tightened liquidity to support rupee during Asian crisis:

Historically, During the Asian crises of 1997-98, the RBI raised its benchmark interest rate by three percentage points in one go to 8%, in order to attract capital from foreign investors. The RBI had raised the bank rate and cash reserve ratio of banks too. This had sucked out liquidity, and interest rates had skyrocketed. This checked the run on the rupee.

The reason for this move and its impact:

Liquidity had eased considerably in June and that had brought the overnight rates (also CP, CD) rates below the Repo rate. With these measures, RBI will be able to raise the effective short term interest rate considerably without hiking the policy rate. (more…)

July 2010

RBI hikes short-term rates; CRR unchanged

rbiThe central bank raised interest on Tuesday in the face of inflation has been above 10 percent for the past five months. The Reserve Bank of India said it would continue to normalize policy in line with the growth and inflation rate in the economy.

The RBI lifted the repo rate, at which it lends to banks, by 25 basis points to 5.75 percent, which was in line with expectations, but raised the reverse repo rate, at which it absorbs excess cash from the system, by a steeper than expected 50 basis points to 4.50 percent.

The central bank left the cash reserve ratio (CRR) unchanged at 6 percent.

Inflation in India emerged last year in the wake of a poor monsoon that drove up food prices but has spread broadly throughout the economy, spawning protests against a government whose voter base is predominantly poor and rural.  New Delhi’s decision to increase fuel prices is expected to add nearly a percentage point to wholesale price index (WPI) inflation starting in July and led the opposition to call a one-day nationwide strike early this month.

The government is hoping on normal summer monsoon rains to results in better crop yields and ease pressure on food prices, and has said inflation should decline to 6 percent by December, which in my opinion is a task in itself…..