RBI Hikes Benchmark Rates More Than Expected : Special Report by Fullerton Securities

1. EVENT UPDATE
16th September, 2010
Mid-Quarter Monetary Policy Review - RBI Hikes Benchmark Rates More Than Expected
The Reserve Bank of India (RBI) today raised its key policy rates, as the worries over inflation continue. The Central Bank
raised its main lending rate, or repo rate, by 25bps to 6 per cent, and the reverse repo rate, at which it absorbs excess
cash from the banking system, by 50bps to 5 per cent. This hike is slightly higher than the 25bps hike anticipated in the
Reverse repo rate. However, the Cash Reserve Ratio (CRR) was kept unchanged at 6 per cent. Since October 2009,
when it signaled the reversal of its policy stance, the Reserve Bank has cumulatively raised the CRR by 100 basis points
and the repo and reverse repo rates under the Liquidity Adjustment Facility (LAF) by 125 basis points and 175 basis points
respectively.
The Central Bank’s move aims at containing inflation and anchoring inflationary expectations without disrupting growth.
The Wholesale price index (WPI) inflation was at 8.5% in the new Inflation Index and 9.5% in the old Index. This is
uncomfortably high for the RBI, which is comfortable with inflation in the range of 5-5.5%.
The Economic growth in the first Quarter of 2010-11 is estimated at 8.8 percent. While this growth was in part due to base
effect, it also indicates that the recovery is consolidating and converging towards the trend rate of growth. This was
reflected in the July IIP numbers, where growth came in at 13.8 percent, led by a 63 percent rise in Capital Goods. Also
the recently announced Q2FY11 advance tax numbers indicated continued recovery especially in sectors like Banking &
Auto.
The agricultural sector is also expected to do well. While monsoon began on a shaky note, there has been a surge in the
st
later months. Total monsoon since June 1 is 2 percent above normal, while the September rainfall is 22 percent over
average. This is expected to lower food inflation in the coming months.
While Banks & Financial Institutions don’t plan to raise lending rates immediately, they plan to raise deposit rates by at
least 25bps and also pass on some increases. This shouldn’t affect Capital Expenditure plans, as companies are in
buoyant mode. However, Home Sales and Consumer Spending could be slightly affected.
This review is the first of the new Monetary Policy Review schedules, which will be held every six weeks against the
Quarterly Reviews previously. The RBI is not expected to raise the rates significantly further this year, unless inflation or
liquidity becomes a major concern.
12.0%
Historical Reverse Repo & Repo Rates Wholesale Price Index (WPI) (%)
9.0
10.0%
8.0
8.0%
7.0
6.0 6.0%
5.0 4.0%
4.0
2.0%
3.0
0.0%
-2.0%
Reverse Repo Repo
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