Monday, July 16, 2007

Reserve Bank of India may retain interest rates, raise CRR

by Vipin Agnihotri

The Reserve Bank of India (RBI) is all set to keep key interest rates unchanged in its quarterly review of credit policy on July 31, but there are some speculations in the Indian media that RBI may enhance the need for banks to keep cash with it to absorb excess liquidity in the system.

Point to be noted here is that after reaching a 14-month low of 4.03 percent, inflation has been on an upward trend because of increasing prices of food. Theoretically speaking, for the week ended June 30, the wholesale price index stood at 4.27 percent. Even at 4.27 percent, the wholesale index is within RBI’s grasp of five percent for this fiscal and medium term target of 4-4.5 percent. 

But fact remains that there is quite a big liquidity in banking system. If experts are to be believed, the overnight rate at which banks borrow from each other in the call money market has been below one per cent for number of years.

Cash Reserve Ratio (CRR) at this point of time stands at 6.5 percent. In terms of statistic, between December 2006 and March 2007, the ratio was increased thrice by half a percentage point each, which by the way sucked more than Rs 45,000 crore from the system.

The main benefit of increase in CRR is that it not only absorbs liquidity but also dampens the complete routine of money creation that works through successive rounds of lending.

 

 

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