No one seems to be expecting any path-breaking announcements
in the Mid-term Review of the Monetary and Credit Policy
for 2002-03 to be unveiled by Reserve Bank of India (RBI)
governor Bimal Jalan on 29 October 2002.
the government continuing to be a big borrower in the
market and the industry continuing to show signs of recession,
the central bank will maintain its soft interest rate
regime and it would specify the serious fiscal situation
as a negative or constraint for maintaining this stance.
government has borrowed Rs 98,000 crore till October first
week, which is about 69 per cent of the budgeted Rs 1,42,867
crore for the entire fiscal. This means that it is likely
to overshoot its target.
It would be interesting
to see whether the RBI spells out in detail its concerns
on sustainability of public debt, a theme
it propounded during the last credit policy. The RBI is
also likely to mention credit off-take, geopolitical factors
and inflation as the areas to watch, for any short-term
shifts in this stance.
In line with the
medium-term policy of the RBI, there is a case for reduction
in the cash reserve ratio (CRR). The CRR refers to the
percentage of its deposits in cash that banks are required
to keep with the RBI. Reducing this percentage increases
the amount of funds a bank can lend to borrowers.
But, since the
system liquidity is ample, the chances of a 50-basis points
(bps) cut are 50:50. The RBI might also contemplate providing
a roadmap to reach the medium-term target of 3 per cent.
Any reductions in the CRR are expected to be counter-balanced
through open market sales.
The expected rationalisation
in refinance limits, which was not done in the previous
credit policy, might be attempted now. Further, streamlining
could be expected in the call money lending and borrowing
In the light of
the poor monsoons, a weak industrial recovery and global
economic weaknesses, there is a strong case for a reduction
in benchmark rates. The Bank Rate - the minimum rate at
which the central bank provides loans to the commercial
banks - is increasingly losing its significance since
few transactions take place at this rate (viz: refinance
which is expected to be reduced or removed altogether
sooner than later). And as a signalling device for reduction
in non-market products (deposits and loans), it has been
ignored by the banking system on the last occasion it
Having said that,
the Bank Rate still carries a lot of psychological value
and remains the best indicator for the RBI to signal lower
rates especially for non-market products. A rate cut of
50 basis points is therefore possible. And this time around,
we might expect the authorities not to link the Bank Rate
to the system liquidity.
The Repo rate in
particular has been holding up the short-term rates and
acting as a break for further reduction in inter-mediation
costs. The repo being an auctioned rate has
been counter-productive and there is a case for the RBI
to announce the liquidity adjustment facility (LAF) corridor
rates and auction only the amount, or alternatively announce
a RBI Funds Rate around which it can expect
the repo rates to deal.
We believe that
there is a strong economic case for a sharply lower repo
rate. The RBI had earlier expressed dissatisfaction with
the flat yield curve. Since it has now also been expressed
by the authorities that the real rates are high
(in contrast to the previous credit policy stance that
the real rates are comfortable), there is
case for a sharp reduction.
But keeping in
view the RBIs reluctance to effect any sharp changes,
we would expect a reduction of 50 bps around the credit
policy time. A Bank Rate and repo rate cut of 25 bps each
are, we believe, priced into the market levels. Rate cuts
at this level or absence of cuts would perhaps lead to
a weakness in bond markets.
The savings bank
rate was left unchanged in the interests of household
savers last time. This is the only commercial rate
still controlled. There is, therefore, an
expectation that this rate would be deregulated; if this
is considered a bold step, a reduction in this rate might
be considered to align it to other market
Alignment of yields
was one of the objectives expressed in the April policy.
The groundwork for Separate Trading for Registered Interest
and Principal of Securities (STRIPS) has been done by
the committee, and the market is perhaps ready. In the
interests of development of a sovereign zero coupon yield
curve, we could expect announcement of introduction of
The policy can
note (with some satisfaction, perhaps) that subsequent
to the previous credit policy (and probably because of
the utterances therein), there has been a move to compress
the yield spreads of corporate paper over the government.
The credit policy
is also expected to indicate developments in areas such
as Real Time Gross Settlement (RTGS), Negotiated Dealing
System (NDS) and suitable stance and guidance in areas
such as Basle II norms, risk management etc. The forex
dealers would also be looking forward for some announcements
on dollar-rupee options.
credit policy has undergone several changes in the past
decades. In the 1970s, credit policy announcements were
called slack season and busy season
policies, underlining the countrys dependence on
the seasonal agricultural sector. In the 1980s, this nomenclature
fell into disuse with increasing focus on industry.
In 1998, it was
decided to announce the Monetary and Credit Policy in
April for the whole year instead of for the first half,
followed by a mid-term review of the policy in October.