RBI Cuts The Repo Rate By 50 Basis Points To 8 Per Cent

The much-awaited interest rate cycle has finally taken a U-turn, creating hopes that the economy will see good growth going ahead. The RBI governor has surprised the markets with a 50 basis points’ cut in interest rate which was higher than the street expectation of 25 basis points. The RBI slashed the repo rate by 50 basis points to 8 per cent while the reverse repo is further adjusted by 100 basis points to 7 per cent. The cash reserve ratio (CRR) remains unchanged at 4.75 per cent. The RBI has also raised the borrowing limit of scheduled commercial banks under the marginal standing facility from 1 per cent to 2 per cent of their net demand and the time liability (NDTL).

This would further ease the liquidity pressure on the banks. The report stated that growth decelerated significantly to 6.1 per cent in the December quarter of 2011 and is expected to moderate in the March quarter. Further, WPI inflation as well as non-food manufactured products’ inflation moderated significantly in March 2012. The RBI cut the rate as the growth was slowing and as inflation looks to stabilize.

The following are the key policy highlights:

• Domestically, the state of the economy is a matter of growing concern.
• The global macro-economic conditions have shown signs of modest improvement.
• Growth in IIP at 3.5 per cent for April-February in FY2012 against 8.1 per cent in the previous year.
• The RBI industrial outlook survey showed a pick-up in the business sentiment in Q4 of 2011-12 but a marginal moderation in Q1 of FY2013.
• The pricing power of Indian companies is diminishing and hence they are finding it difficult to pass on the rising input costs to their customers.
• The ten-year benchmark yield is at 8.6 per cent on April 13, 2012 as compared to 8 per cent by the end of March 2011.
• Industry is expected to perform better than last year as a leading indicator suggests a turnaround in IIP growth.
• Domestic growth outlook for FY2012-13 looks a little better than in FY2011-12.
• GDP is projected to grow at 7.3 per cent in the current year.
• Not much scope for monetary policy easing without aggravating inflation risk.
• Crude oil prices are expected to remain high.
• The baseline projection for WPI inflation for March 2013 is placed at 6.5 per cent.
• Inflation is expected to remain range-bound during the year.
• M3 growth is projected at 15 per cent for the current year.
• Aggregate deposits of SCB are projected to grow at 16 per cent.
• Growth in non-food credit of SCB is projected to grow at 17 per cent.
• Even though the Union Budget envisages a reduction in fiscal deficit in FY2013, several upside risks to the budgeted fiscal deficit remain. In particular, the containment of non-plan expenditure within the budget estimates for 2012-13 is contingent upon the government’s ability to adhere to the commitment of capping subsidies.
• Based on the current assessment, the economy is clearly operating below its post-crisis trend.
• Repo rate reduction from 8.5 to 8 per cent.
• CRR at the same level.
• It’s imperative for macro-economic stability that the administered prices of petroleum products are increased to reflect their true costs of production.

Following the RBI’s move we believe that banks may also slash the deposit and credit rate by 10 to 50 basis points. The RBI’s action plan becomes effective immediately and hence we may see a reduction in the interest rate by the banks within the next couple of days. Hence, investors having funds or cash and who wish to invest in fixed deposits should rush to the banks as the same deposit for the same tenure might be available at an approximate 25 basis points lesser than the current one. On the other hand, those who wish to take a loan from the bank might just take a pause for a couple of weeks or should negotiate with the banker which would result in some benefit.

In our earlier articles we were of the opinion that the RBI should take a pause in this meet and cut the rate in its next monetary meet which could have been a good move. We believe the inflationary pressure will continue to hover above the economy in the near to medium term. Further, the RBI slashed the rate by 50 basis points which was above the street’s expectations.

For the betterment of our economy we hope that things will work out as per the RBI projections and inflation continues to moderate going ahead while growth stands to gradually pick up. We don’t know what the RBI will do if inflation goes into an uptrend mode. Nevertheless, the move was definitely positive for interest rate-sensitive sectors like banking, real estate and auto.