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Its time to be bold for the Indian central bank.

BY: Inder Preet Singh | Category: Business and Finance | Post Date: 2008-11-17
 



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   Inder Preet Singh
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While the major economies of the world have entered into the so called technical recession, India too is on the verge of a slow down. But the moot question is whether our leaders and the Indian central bank is doing enough to tackle it. With due respect to them, I don't think so.

Repo rate and cash reserve ratio (CRR) are the two most widely used monetary tools available with Indian central bank for controlling the amount of money circulating in the economy. RBI has been increasing the repo rate since Oct 2004 to July 2008, during which it was hiked it from 4.50% to 9.0%. Even after these rate hikes, our economy grew at 9.4%, 9.6% and 9.0% in FY 2006, 07 and 08 respectively. It is believed that any monetary action takes around 6 - 8 months to have its effect on the real economy and the robust GDP growth numbers while the rates were being increased seem to confirm that belief.

While the repo rate increase was aimed at discouraging the companies to borrow, CRR was increased to decrease the liquidity in the system. Due to continuous CRR hikes, call rates increased to as high as 24 - 25% in the month of Oct 2008. The liquidity situation was further aggravated by non stop selling of stocks by Foreign Institutional Investors (FII).

Since Oct 2008, RBI has started cutting both these key rates and has already cut CRR and repo rate by 350 and 150 basis points respectively. While I believe that liquidity situation has been addressed to a larger extent, much needs to be done before cheaper credit becomes available to the Indian corporates. The stepwise cutting of CRR rates instead of cutting it by 250 basis points in a single go shows the cautious approach being followed by RBI. These are extraordinary times which require extraordinary steps to be taken. We are already staring at real GDP growth numbers of 6.5 - 7% and if RBI goes slow on the repo rate cut also, we might give this number a miss.

Inflation for the week ended 1st Nov 2008 has come down to 8.98% and has given the Indian central bank a lot of headroom for cutting the key lending rate by drastic 100 basis points. It took RBI four years to double the short term lending rate and if it takes even half the time to bring it back to the same level, I fear we might go back to an average GDP growth rate of 5.8% achieved during 1995 - 2000.

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About Author / Additional Info: I have done BE (Comp Science) followed by MBA.

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