RBI assures liquidity support to commercial sector

The Reserve Bank of India has assured continued liquidity support to market participants even as it kept key interest rates unchanged in its third quarter review of monetary policy for 2008-09.

While the central bank left its repo rate, reverse repo rate and the cash reserve ratio unchanged on Tuesday, RBI assured market participants that it will endeavour to maintain the overnight money market rates within limits. 

''The Reserve Bank will continue to pursue this stance of ensuring ample liquidity in the market and maintaining the overnight money market rates within the LAF corridor,'' it said in a release, adding, ''In order to do so, the Reserve Bank will, as in the past, employ both conventional and unconventional measures.''

The demand for credit from the banking sector has increased as other sources of funds to the commercial sector have shrunk, the release noted.

The total flow of resources to the commercial sector from all sources, estimated at about Rs4,85,000 crore during the fiscal year 2008-09 so far, has been lower than about Rs4,99,000 crore in the corresponding period of the previous year.  While bank credit has substituted for the shortfall in other sources of funds to some extent, a complete substitution has so far not taken place, the release said.

RBI, which  had in October estimated real GDP growth for 2008-09 in the range of 7.5–8.0 per cent, has now revised it downward to 7.0 per cent as ''the downside risks to growth have amplified because of slowdown of industrial activity and weakening of external demand as reflected in decline in exports.''

The release also noted the marked decline in service sector activities in the second half of 2008-09.

''Keeping in view the slowdown in industry and services and with the assumption of normal agricultural production, the projection of overall real GDP growth for 2008-09 is revised downwards to 7.0 per cent with a downward bias,'' it said.

While inflationary pressures have come down, following a slump in global demand, RBI expects the global trend in commodity prices and the domestic demand-supply balance to pull WPI inflation down to below 3.0 per cent levels by end-March 2009.

However, the fall in inflation has not helped moderate consumer prices, RBI said, adding that the monetary policy will endeavour to ensure price stability with well-anchored inflation expectations.

The RBI has raised its indicative projection of the total flow of credit from the banking sector to the commercial sector to 24 per cent for 2008-09 from 20 per cent envisaged in the annual policy statement.

''With a view to enabling banks to sustain the current level of credit flow alongside an enhanced government market borrowing programme, the Reserve Bank's monetary operations will be conducted so as to be consistent with the revised indicative money supply projection of 19.0 per cent for 2008-09, higher than the 16.5-17.0 per cent envisaged in the annual policy statement,'' it said.

''To arrest the moderation in economic growth, it is critical that banks expand the flow of credit to productive sectors of the economy and do so at viable rates.''

The RBI also said banks should monitor their loan portfolios and take early action to prevent delinquencies down the road, and safeguard the gains of last several years in improving asset quality.

''The Reserve Bank appreciates that risk management is a difficult task in normal circumstances; it is even more challenging in an environment of uncertainty and downturn. Towards this shared endeavour of maintaining the flow of credit to productive sectors, the Reserve Bank will take calibrated monetary policy actions as necessary and at the appropriate time,'' the release said.

While the origins of the current crisis are common around the world, RBI said, the crisis has impacted different economies differently.

''In advanced economies where it originated, the crisis spread from the financial sector to the real sector. In emerging economies, the transmission of external shocks to domestic vulnerabilities has typically been from the real sector to the financial sector. Countries have responded to the crisis depending on their specific country circumstances. In particular, while policy responses in advanced economies have had to contend with both the financial crisis and recession, in India, the policy response has been predominantly driven by the need to arrest moderation in economic growth,'' it noted.

''Our ability to respond has been facilitated by the continued smooth functioning of our financial markets and the well-capitalised and healthy banking system. Thus, even as policy responses across countries are broadly similar, their precise design, quantum, sequencing and timing have varied.  This has been the case with India too, '' it added.

While the non-functional and frozen financial markets have been at the heart of the global financial crisis, the financial system in India has been resilient and stable, RBI noted. 

''Barring some tightness in liquidity during mid-September to early October, the money, foreign exchange and government securities markets have been orderly as reflected in the market rates, spreads and transaction volumes relative to those observed during normal times,'' it added.

While the fundamental strengths of the Indian economy continue to be in place, the global crisis will dent India's growth trajectory as investments and exports slow. Clearly, there is a period of painful adjustment ahead of us. However, once the global economy begins to recover, India's turnaround will be sharper and swifter, backed by our strong fundamentals and the untapped growth potential, it said.

RBI said the monetary policy will aim at providing comfortable liquidity to meet the required credit growth consistent with the overall projection of economic growth; respond swiftly and effectively with all possible measures as warranted by the evolving global and domestic situation impinging on growth and financial stability; ensure a monetary and interest rate environment consistent with price stability, well-anchored inflation expectations and orderly conditions in financial markets.

''Consistent with the above assessment and the monetary policy stance, it has been decided to maintain the policy rates and the cash reserve ratio (CRR) at the current level. Two liquidity facilities, viz., the special refinance facility under Section 17(3B) of the Reserve Bank of India Act, 1934 introduced on November 1, 2008 and the special term repo facility for enabling banks to meet the funding requirements of MFs, NBFCs and HFCs, which are currently available up to June 30, 2009, have been extended up to September 30, 2009," ther RBI said.