The Hindu Business Line : A good balancing act

Overall, the credit policy strikes a good balance between sustaining rapid economic growth while keeping control of inflationary pressures. Overall, the credit policy strikes a good balance between sustaining rapid economic growth while keeping control of inflationary pressures.

Vishwavir Ahuja

Contrary to expectations, the Governor has not hiked any of the benchmark rates. It seems the healthy and stable macro-economic environment, strong growth momentum, and particularly the benign inflationary performance in recent months have prompted RBI to maintain status-quo.

Even as robust credit growth, sustained asset price inflation, and significantly higher crude prices pose `upside' risk, the overall stance of the monetary policy at this juncture seems to reflect a `neutral' bias, "while being in readiness to act in a timely and prompt manner on any signs of evolving circumstances impinging on inflation."

As such, inflation is conservatively estimated or aimed to be contained between 5-5.5 per cent during 2006-07, higher than the 4-4.4 per cent rate prevailing currently.

The RBI had been stating risks associated with rapid asset price inflation and excessive exposure to real estate lending for a while. There has been a steady deterioration with the quality of credit.

While there are several regulatory measures that have been implemented since December 2004 to curtail the excessive credit growth, these measures have had limited impact in restraining credit growth. The RBI aims to prevent financial instability which can be caused by swings in asset prices. In order to protect the banking sector from financial uncertainty, the RBI has increased provisioning to 1 per cent versus 0.4 per cent on commercial real estate loans, personal and home loans above Rs 20 lakh and loans against shares.

The tight liquidity scenario that we have been witnessing since the start of the year has been mainly due to one-off issues, such as the sale of foreign exchange by the RBI to SBI with maturing India Millennium Deposits (IMD) in December 2005. The IMD-related payment had a considerable strain on interbank liquidity which was further affected by seasonal factors such as auction of long-dated government bonds in January and advance corporate tax collection in March.

No liquidity pressure

The liquidity pressure having eased off considerably and with sufficient liquidity support measures already in place, the RBI has decided not to reduce the cash reserve ratio (CRR). But to keep in line with international interests rates the RBI has set medium term target for the CRR at 3 per cent.

Overall, the credit policy strikes a good balance between sustaining rapid economic growth while keeping control of inflationary pressures. With high credit creation, sustained asset price inflation and a likelihood of increase in petroleum prices, there is a continued concern over the rise in inflation rates.

The RBI rightly believes that with adequate liquidity support measures already in place they do not need to reduce the CRR at present. On the whole, the RBI has retained its emphasis to ensure macroeconomic growth and financial stability.

(The author is Managing Director and CEO, Bank of America, India)