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Our Bureau

The RBI Governor, Dr Y.V. Reddy

Mumbai , Sept. 11

IN a bid to check the liquidity overhang in the system, the Reserve Bank of India has hiked the cash reserve ratio (CRR), to be maintained by banks, by 50 basis points to 5 per cent of their demand and time liabilities.

The CRR will be raised in two stages by 25 basis points each: First, from the fortnight beginning September 18 and then from October 2.

According to analysts, the move which is expected to drain around Rs 8,000 crore worth of liquidity from the system, contradicts RBI's medium-term objective of reducing the CRR to a minimum of 3 per cent as stated in the 2002-03 annual policy.

The apex bank has also reduced the interest payable to banks on their eligible cash balances maintained with RBI under CRR requirement, to 3.5 per cent per annum from 6 per cent. The payment of interest on monthly basis will continue as at present, RBI said.

The central bank's latest measures follow close on the heels of inflation surging to a four-year high at 8.33 per cent for the week ended August 28. This is a sharp increase compared with the inflation rate of 4.4 per cent at the beginning of this fiscal, i.e. for the week ended April 3.

RBI has said its actions are consistent with the present stance of the monetary policy to meet credit growth and to support investment and export demand, given the current liquidity conditions.

Last month, the RBI Governor, Dr Y.V.Reddy, said the inflation rate was surging higher than what the central bank had originally estimated. In the Monetary and Credit policy for 2004-05, RBI had forecast that the inflation rate would be in a band of five per cent by the end of this fiscal.

In August, Dr Reddy said: " The economy is going through a structural transformation and credit offtake is picking up. Our response to inflation would be measured, based on these factors."

The latest hike in CRR notwithstanding, RBI has stressed, that it will continue to pursue its medium-term objective of reducing CRR to its statutory minimum of three per cent, while retaining the option to use the CRR in both directions for liquidity management, as and when essential, in addition to other instruments.

The CRR was reduced to 4.50 per cent from 4.75 in the bank's annual policy statement of April 2003.

In December 2003, RBI's internal group on Liquidity Adjustment Facility had said the remuneration of eligible cash balances at the bank rate was no longer justifiable and the remuneration of CRR, if any, should be de-linked from the bank rate and placed at a rate lower than the repo rate.

The group had argued "with substantial scaling down of CRR coupled with marked decline in overall interest rate structure in the economy and increasing liquidity needs of participants in the wake of higher inter-linkages among different segments of the market, the degree to which CRR had been impacting banks as an implicit taxation earlier is considerably less in recent period".

More Stories on : Financial Policy | RBI & Other Central Banks | Economy

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