24 january 2006

rbi surprises with 25 bps interest rate hike
the reserve bank of india today raised key short term interest rates by 25 basis points, as predicted in last saturday's weekly round up. the reverse repo rate, the rate at which rbi borrows from the market, has been increased from 5.25 per cent per annum to 5.5 per cent. the repo rate, the rate at which rbi lends short term funds to commercial banks has been hiked from 6.25 per cent to 6.5 per cent per annum.

the bank rate, mostly used as a reference rate, has been left unchanged at 6 per cent per annum. the cash reserve ratio, the percentage of deposits commercial banks need to keep as cash and cash equivalents, has also been left unchanged.

most economists and debt market participants expected the rbi to keep interest rates stable. inflation is very much under control at between 4 and 4.5 per cent and in all likelihood would meet the rbi's target of between 5 and 5.5 per cent by march end. it was also felt that there would be some political pressure on the central bank to keep low interest rates to facilitate faster economic growth rates.

however, the rbi seems to be more concerned about sustaining the economic growth rates over a longer term rather than pushing them up further in the short term. the bank has clearly stated that the risk of higher inflation remains and the latest surge in crude prices may have forced its hand.