The Hindu Business Line : Inflation numbers crucial in setting direction

The Governor has surprised the market by hiking the cash reserve ratio (CRR) by 25 basis points and keeping the key reference rates — repo and reverse repo — unchanged. It goes to prove two points — fiscal and administrative measures are the solutions to address inflationary issues, caused mainly by “price-push” factors, and to control money supply till remedial measures recently taken by the Government begin to bite.

Clearly, and justifiably, the RBI is reluctant to deploy interest rate tools and would rather tackle the current situation through money supply.

Banks, of course, bear the burden and would need to take a call on whether, and how much, of this burden needs to be passed on to borrowers. I suspect they would push lending rates marginally to retain margins. The CRR hike may not necessarily imply that deposit rates will move up as long as there is enough liquidity in the system to keep the MIBOR close to the reverse repo rate.

The risk is that on any signal of money not going into the RBI’s liquidity adjustment Facility (LAF) window, MIBOR will quickly move close to repo rate of 7.75 per cent — which will shift the short- to mid-term yield curve higher, thus making deposits costlier for Banks.

Given the RBI’s stance to help a soft-landing for inflation through control of money supply, it may not be long before the deposit rates start inching up. This would not be good news for the corporate world and the markets.

Going forward, the inflation number, week-after-week, will be crucial for setting the direction. Having used up a whole lot of fiscal measures, further bullishness in the global commodity markets will be tough for the Government to control. This would result in the RBI sucking out liquidity through more aggressive CRR hikes. In the event that the Fed goes into a “pause” mode in the near future, we need to be prepared for a hike in interest rates as well. So, it is going to be global cues controlling domestic measures.

(The author is MD, IndusInd Bank.)

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