If the optimists based their case for a modest rate cut on the above factors, the majority rightly argued that inflation risks still remain and there is no economy-wide cooling-off to warrant a rate cut. There is excess liquidity all around, while commodity and oil prices remain at record levels.

Then there is the RBI''s present day bugbear - overseas capital inflows. When SEBI spooked the stock market with its P-Note proposals earlier this month, the RBI governor must have been the most relieved. If successful, he would have gained the upper hand in his until-now losing battle against a strengthening rupee.

But that was not to be. As stock prices tanked, SEBI and the finance ministry went on an overdrive to limit the damage. While SEBI stuck to its proposals on P-Notes, it eased market fears by making it easer for foreign funds to come in after registrations. Markets quickly saw through the pussyfooted attempts to block the ''wall of liquidity'' rushing into emerging markets. So they went back to their exuberant ways with a vengeance, without even pausing to celebrate the coronation of Mukesh Ambani as the richest corporate czar in the world.

Governor Reddy is once again a much-worried man. He cannot hike rates now when some sectors of the economy are going through a demand slowdown. More significantly, it will hurt the already miserable exporters even more, unless the government is willing to subsidise them even more. So, he decided to use the only other weapon in his armoury - the CRR.

Will the 50-point hike in CRR solve the governor''s problems? Unlikely. The ''emerging-market decoupling'' theory is now well accepted and that would mean sustained inflows into Indian stock markets. Of course there will be bumps on the way but, given the incredible momentum it has now, the surge may have more to go. Yes, valuations are clearly unsustainable and will definitely revert to more normal levels in future.

But that future may even be many months from now, given the rising propensity of central bankers the world over to prop-up asset prices through benevolent rate cuts and heavy liquidity infusions. It will take some kind of a disaster in the financial markets or a dramatic and sudden decline of US or Chinese economic growth to prick this bubble.

But, it is unlikely that the RBI will be comfortable enough any time soon to lower interest rates as some investors had hoped for. Though the better than expected farm output has helped, inflation is kept artificially low through the government''s unwillingness to increase retail fuel prices. Don''t expect this to change as we move closer to a general election. Electoral compulsions would also mean government spending will rise and add to domestic liquidity and inflation pressures.

Any worsening of the fiscal situation, which is now propped up by higher revenue receipts and not by improved expenditure management as claimed by the government, will make life more difficult for the RBI in the event of further troubles in global financial markets.

Of course, the RBI will be more than willing to cut rates if there is a crisis of some sorts, as it has become the favoured response among all central banks. Governor Reddy was quite emphatic yesterday when he said we should follow the example set by monetary authorities of other countries and respond with liberal measures in the event of a potential crisis. It should be noted that, among all emerging economies, India has probably the worst fiscal and current account deficits - since most others have huge surpluses. That makes the country more vulnerable to external shocks, as rightly pointed out by the governor.

The governor also said "we are now seeing early signs of overheating" in the economy. This is not the first time he has talked about overheating, but has not yet come up any suggestions on policy responses. Is this a veiled warning on a possible flare up in price levels in future? After all, anything that is forcefully suppressed for a long period - like the way inflation is controlled now, has a tendency to pop up when the lid is removed. With the economy showing no signs of an appreciable slowdown, that remains a significant risk for the RBI.

Meanwhile, banks will come under increased pressure to maintain their margins. Most of the credit growth slowdown has happened in the more profitable retail segment. Though corporate credit demand will remain strong as long as the investment boom continues, businesses now have more access to other sources of funds and hence will not be willing to pay higher interest rates. The high valuations enjoyed by banking stocks, mostly in anticipation of foreign banks gobbling up some of the domestic lenders when the sector opens up in 2009, may come under strain. Foreign banks have been salivating at the huge domestic market potential for a long time, but will they be willing to pay any price to get in?