P. Devarajan

IS RBI reverting to a high interest regime? Has RBI made the choice between growth and inflation? If one's memory holds, the RBI in 1994 or thereabouts pushed up interest rates for the economy to get set on a climb down.

Will the Indian economy dip, say by end-2006 and not necessarily because of volatile crude prices? And will this excuse be trotted to escalate loan rates to around 18 per cent as in the 80s and early 90s? (This writer took a housing loan at 15 per cent in the 90s and paid it off only a month ago).

A reading of the Third Quarter Review of Annual Statement on Monetary Policy for 2005-06 offers enough evidence of the RBI mindset. Inflation as of January 7, 2006 is placed at 4.2 per cent. But RBI is worried inflationary expectations could pile up on the back of volatile crude prices and trip growth. There is no denying the impact of crude.

More immediately, the RBI seems to have made a success of its dear money stance. As on January 20, 2006, the Central Government has completed net market borrowings of Rs 90,051 crore (81.7 per cent of the budgeted amount of Rs 1,10,291 crore) and gross market borrowings of Rs 1,49,682 crore (83.8 per cent of the budgeted amount of Rs 1,78,467 crore) in 2005-06.

The weighted average yield on fresh borrowings by dated securities has gone up to 7.29 per cent (up to January 20, 2006) from 6.1 per cent in the corresponding year. The RBI confirms, "financial markets have remained generally stable although interest rates firmed up in almost all segments. The call has climbed from an average of 4.77 per cent in April 2005 to 6.58 per cent in January 2006."

The market repo (outside the Liquidity Adjustment Facility) rate has gone up from 4.63 per cent to 6.10 per cent with a rise in daily volume from Rs 3,958 crore (one leg) to Rs 6,440 crore (up to January 20, 2006).

The average daily volume of collateralised borrowing and lending obligation (CBLO) rose sharply from Rs 5,185 crore to Rs 13,090 crore along with an escalation in the interest rate from 4.58 per cent to 6.03 per cent. The cost of commercial paper (CP) of 61 to 90-day maturity has climbed from 5.80 per cent in April 2005 to 7.04 per cent by mid-January 2006 and the outstanding amount rose from Rs 14,809 crore to Rs 17, 235 crore.

The "typical" interest rate on 3-month certificates of deposits (CDs) shot up from 5.87 per cent in April to 6.75 per cent by end-December 2005, accompanied by a significant rise in outstanding amounts from Rs 14,975 crore to Rs 32,806 crore. Mostly banks access the markets with CDs and they will be sharpening their knives to bilk borrowers.

Third-quarter results of most banks are excellent as they should be with the spreads earned being around 3 per cent and RBI has done nothing about it. Perhaps, various players in the economy have started paying up.

In the Third Quarter Review, the RBI has made much of asset quality and real asset prices.

It may be worth mentioning bank funds are not fuelling the real asset boom; rather, it is the urban land ceiling acts and banks cannot do anything about them.

The IPO boom was on as banks did not abide by rules laid down and now they have been let off with piddling fines.

Today's boom is just about two years old and corporates, foreign and Indian, are keen on adding fresh capacities; banks have yet to care for farmers fast giving up their ghosts while the services sector funds itself.

There will be need for more cheap funds and only corporates are best placed to access easier foreign funds. The least the RBI could have done is to wait till the Union Budget as signalling a high interest regime does not need elaborate press notes or meets.

(This article was published in the Business Line print edition dated January 25, 2006)
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