Will the RBI cut CRR in the next monetary policy review?

One reason why the markets had a good run up today was the Chinese economy, which saw a 50 bps cut in its Cash Reserve Ratio (CRR). China made this move after the Euro-zone debt crisis affected the growth prospects of its economy, as well as its export outlook.

The 50 bps cut in Chinese CRR will be effective from Dec 5, 2011. On a YoY basis, the Chinese economy expanded 9.1% in the 3rd quarter, which was the least in 2 years.

Earlier, the emerging markets' economies had stopped raising their interest rates, while on the other hand, the RBI continued with the rate hikes. In the forthcoming monetary review, due on Dec 16, 2011, we may see a pause in the rate hike as inflation has shown signs of cooling. But this time around, the RBI may impose a cut on the CRR, which would keep its anti-inflationary stance and also ease the liquidity pressure in the market.

CRR refers to the share of cash out of the banks' Net Demand and Time Liability (NDTL) that they have to maintain with the RBI. It is an instrument that helps to control money supply in the economy. Currently, the RBI has set the CRR at 6%. If the RBI lowers this rate, there would be more liquidity in the market, and vice versa.

The RBI also has raised the repo rate 13 times since March 2010 to curb inflation. The rising interest rate has slowed down the growth in the economy. On a sequential basis, the GDP growth declined by 80 bps to 6.9% in the September 2011 quarter. The Index of Industrial Production (IIP) figures for the month of September 2011 also came in at a mere 1.9%, versus that of 3.6% for August 2011. Inflation has shown signs of cooling off. Food inflation also moderated to 8% for the week ended Nov 19, 2011.

Earlier, the central bank also had infused funds in the market through bonds, to help the banks to meet their liquidity needs. As of FY11, the approximately total deposits of the banks were Rs 56 lakh cr. Under the Liquidity Adjustment Facility (LAF), the RBI is comfortable with banks borrowing up to 1% of their total deposits (Net Demand and Time Liability). This would be approximately Rs 56000 cr. However, banks are currently borrowing way above their limit. The CRR cut will ease some liquidity pressure among the banks.

A 50 bps cut in CRR (i.e., from 6% to 5.50%), will inject liquidity of approximately Rs 25000 to 30000 cr. We, at DSIJ, feel that the RBI will follow the footsteps of the Chinese economy, and will cut CRR in the coming monetary policy review scheduled for Dec 16, 2011. One must wait and watch for the RBI’s moves, which will provide further cues for the markets.  

The following table shows the movements in key rates in India.