Bank rate cut to 6.5%, CRR to 5.5%

By Pradeep Rane | 22 Oct 2001

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Mumbai: The Reserve Bank of India (RBI) has announced a slew of measures to kickstart the slowing economy by cutting banks cash reserve ratio (CRR) by 2 per cent and slashing the bank rate by 0.5 per cent to 6.5 per cent.

The CRR cut will release Rs 8,000 crore of additional liquidity into the system in two stages. The bank rate after the cut will be the lowest since May 1973, signaling a softer interest regime. Since the export credit rate has to be 2 percentage points below the bank rate, this means rupee export credit rates will fall to 4.5 per cent.

The two-stage CRR cut will be front-ended, with the rate going down to 5.75 per cent (from the current 7.5 per cent) on 3 November; the remaining 0.25-per cent cut will happen on 29 December.

In its the busy season credit policy 2001, the central bank has also raised the interest on CRR balances to the level of the bank rate - this means the eligible balances in the CRR would receive 6.5 per cent interest.

The RBI has also announced a 0.5 per cent (50 basis points) cut in the bank rate. On the basis of a review of macroeconomic and monetary developments, the bank rate is being reduced by 0.50 percentage point from 7.0 per cent to 6.50 per cent with effect from the close of business on 22 October. At this level, it is the lowest bank rate since May 1973, the RBI said in a statement.

The bank rate cut ties in with the RBIs assessment of the likely slowdown in growth rates. The central bank has scaled down its projection for the GDP growth rate to a range of 5 to 6 per cent from the earlier 6 to 6.5 per cent. In view of the global uncertainties, a projection in the range of 5 to 6 per cent growth rate for 2001-02 is considered reasonable for monetary management, the RBI said.

Citing strong economic fundamentals as the reason, the RBI said the risk of inflation is relatively low as of now. It allied the fear of balance of payment crisis saying that RBI does not see any significant pressure on balance of payments.

The RBI said it would tighten norms for non-SLR investments by banks and financial institutions. It also told banks to move to a variable rate structure on long-term deposits.

In another significant move, the RBI has also made it mandatory for banks and financial institutions to invest in non-SLR securities only if they are in the demat form. This applies to all such issues, whether privately placed or otherwise, and guidelines in this regard will be finalised after consultations.

In also decided to allow banks the freedom to change the composition of working capital by increasing the cash credit component beyond 20 per cent for working capital limits of Rs 10 crore and above.

The apex bank has given urban cooperative banks more time to comply with the SLR set in the April monetary policy. The new deadline is being relaxed from the earlier one of March 2002. In another easing, UCBs are also being allowed to lend to individuals against shares.

All the measures announced by the RBI governor as part of the monetary policy for the second half of 2001-02 would help create an environment where non-bank financial institutions will find it easier to migrate towards universal banking. The biggest roadblocks are the huge CRR and SLR requirements that they would have had to maintain if they were to become banks. But with the CRR being cut to 5.5 per cent in two stages, and with balances with the RBI earning 6.5 per cent, the transition should be smoother.

The policy document makes it clear that the RBI will process applications for universal banking promptly in the light of considerations outlined in RBIs circular to FIs in April 2001. In processing a specific proposal, the overwhelming consideration of the RBI will be to meet the strategic objectives of the concerned financial institutions for meeting the varied needs of different categories of customers, while at the same time ensuring healthy competition in the financial system through transparent and equitable regulatory framework applicable to all the participants in banking business.

This suggests that the RBI, while making concessions to FIs like ICICI and IDBI on the timeframe for meeting CRR and SLR requirements, will ensure to provide a level-playing field for existing commercial banks.


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