What with a budget yet to be presented, a government yet to to be sworn in, stock markets in turmoil and an uncertain oil price scenario, the Reserve Bank of India's (RBI) monetary policy for the year 2004-2005 has no option but to adapt a wait and watch policy.

The growth in the gross domestic product (GDP) is expected to be between 6.5 to 7 per cent and inflation to be contained at 5 per cent. YV Reddy, governor, RBI however, has qualified that since industry is picking up momentum and as the rains are expected to be plentiful and well distributed, GDP growth could surpass the 7 per cent mark. Likewise, given the uncertain oil price scenario, inflation could rise above 5 per cent.

There has been no change in the bank rate, the repo rate and the cash reserve ratio. The RBI governor did not mention the uncertain political scenario and the country's future direction on reforms as he is not expected to mention it. These thoughts, however, must have weighed on his mind, which led him to adopt a policy stance of caution with a watchful eye so that the RBI is prepared for any eventuality. On interest rates, Reddy said that the central bank would maintain `status quo' as there are some signs of economic recovery and interest rates in major economies are likely to harden. "In the view of widespread anticipation that international interest rates may rise, there may be a case for raising interest rates, however, such an increase may have an adverse impact on the investment demand, which has shown signs of a pick up after prolonged sluggishness," he said.

On the other hand, Reddy has pointed out that while a case can also be made for lowering interest rates to foster investment activity domestically in the context of capital flows, an assessment of domestic factors relevant to India points to stability, but in the leading economies of the world, there is a greater potential for tightening rather easing of monetary policies.

Addressing concerns on the inflation front, the governor said that it expects the inflation rate in 2004-05 to be at around 5 per cent, on a point-to-point basis, assuming there are no significant supply shocks and there is appropriate management of liquidity. The overall stance of the monetary policy 2004-05 will be to provide adequate liquidity to meet credit growth, support investment and export demand in the economy, while keeping a close watch on inflation.

Regarding the banking sector, the governor has pitched for a comprehensive and transparent policy on the ownership and governance of both public sector and private banks. This assumes significance against the backdrop of the RBI's push for limiting foreign ownership in private banks to 10 per cent and limiting the voting rights for the foreign owners at that level.

On the credit delivery front, the RBI has fine-tuned norms for priority sector and infrastructure lending to increase the flow of credit to these sectors. It has also allowed banks to raise long-term funds through infrastructure bonds. This will enable banks to take care of their asset-liability mismatches.

The RBI has lifted the ceiling on banks' exposure in unsecured lendings and allowed them to take an additional 5 per cent exposure to individual borrowers and groups of companies for infrastructure financing without the RBI 's permission.

The RBI has put in place a 100 per cent risk weightage to banks' exposure in public financial institutions. The banks have also been asked to maintain a capital charge for market risk to ward off any impact on their government securities' portfolio in case of interest rates rise.

In due course, the capital charge for market risk will replace the existing system of investment fluctuation reserve, which the banks need to create to take care of volatility arising out of any adverse movement in interest rates. The RBI has also introduced a graded provisioning requirement for those assets, which are 'doubtful' for more than three years.

Reacting to the policy, Anand Mahindra, president, Confederation of Indian Industry said "The monetary policy will set the stage for policy announcements to be made by the new government."

"The policy focuses on credit delivery in the key areas of agriculture, small and medium enterprises and infrastructure. The inclusion of loans for building storage facilities for agricultural products is welcome. Besides, the alignment of repayment dates for agricultural loans to harvesting dates is an innovative measure, which should be successful in reducing the non- performing assets in the sector," Mahindra added.

The Indian Merchants' Chamber has also welcomed the policy, which provides adequate liquidity for credit, investments and export demand while keeping a close watch on the price level and maintaining a soft interest bias.

To sum up, the policy says that while the RBI is adapting a wait and watch policy as far as inflation is concerned, there is no waiting as far as stepping up credit to agriculture, small and medium enterprises and to infrastructure. After all, post elections, the governor has seen the fate of governments which have neglected these areas.