The Hindu Business Line : Curbing demand pressures

The RBI clearly faced tough choices ahead of the Credit Policy. On the one hand, inflation had surged to 7.41 per cent, led by a sharp hike in agricultural, energy and commodity prices. On the other hand, credit growth was slowing, with non-food credit growth falling to 20 per cent.

In the event, the RBI has chosen a practical solution, leaving the interest rates unchanged by not hiking the bank rate or the repo rate, but instead hiking the CRR by 25 basis points. This hike will pull out Rs 9,000 crore from the system, and is on the back of the 50 basis-point hike that happened earlier.

The logic seems to be that inflation can be better controlled by restraining the demand side, rather than hiking interest rates. The policy objective clearly seems to be to temper inflationary expectations, while sustaining growth momentum, to achieve a targeted 8.50 per cent growth rate.

The markets have overall welcomed the move. The liquidity in the system is expected to remain robust and the markets expect to regain the lost liquidity soon.

The G-sec markets have not seen any damage post the hike, and the stock market has seen a rally, since the expected interest rate hikes did not happen.

Given the tough choices, the RBI move is well thought out, as a repo rate hike would still have kept open the possibility of a CRR hike, and that would have kept the markets on tenterhooks. Also, the markets believe that inflationary pressures may come off, as agricultural prices have seen a sharp downswing in the last few days.

Overall agricultural production is also expected to be well in excess of 215 million tonnes and, with good rainfall expected this monsoon, inflationary pressures may abate. Further, with the dollar climbing in the international markets, commodity prices are expected to see a sell-off. Thus, the markets believe that no more rate hikes may be needed, unless global uncertainties erupt again.

A recognition that housing prices have moved up is visible in increasing the eligible amount from Rs 20 lakh to Rs 30 lakh for housing loans with a 50 per cent risk weightage. Another measure that has been earmarked for consideration is the permission for repos to be permitted in corporate bonds.

This is a long pending demand in the market and will be crucial to lending liquidity to the bond markets and deepening participation in these markets.

All in all, the policy is a well-balanced one, curbing demand pressures to go along with the various supply-side measures initiated by the government over the past few weeks. At the same time, there is a good acknowledgement of the increasing global risks.

(The author is MD & CEO of Development Credit Bank Ltd)