The 25 basis points reduction in the Cash Reserve Ratio (CRR) on September 17 remains another token dose of monetary easing. The headline monetary policy rate, the repo rate, on the other hand, was kept unchanged at 8 per cent since the surprise cut of 50 bps in April. The policy stance remains cautious, given the current high inflation and the likelihood of the headline print going up further in coming months.

This is the third time the RBI has lowered the CRR in 2012. In the previous two occasions, the CRR cuts were triggered by the need to manage acute liquidity shortage, but currently, the systemic liquidity shortage is much benign — between Rs 20,000 and Rs 40,000 crore.

CRR is typically changed in doses of 50bps or more (unless juxtaposed with any other measure). This time it has been just a token 25 bps change. While this is proactive infusion of liquidity ahead of the festive season and the “busy” season for the banking system, it also carries an important element of signalling from the central bank.

RBI can’t ignore growth concerns

While the RBI has maintained a relatively hawkish rhetoric throughout 2012, it has delivered some measure of easing — mostly liquidity — in or around every single policy announcement without exception during the year. This possibly shows the growth concerns the central bank continues to face internally, despite sticking to their inflation-fighting rhetoric. Indeed, GDP growth in the current fiscal is likely to remain sub-6 per cent, the lowest in the last 10 years. and considerably lower than the RBI’s and various other government agencies’ forecast of around 6.5%. That makes it difficult for the central bank to ignore the need to boost economic activity.

The RBI communication, of late, indicates its hesitation to cut headline repo rate at the moment, while the central bank demonstratively remains more comfortable easing the liquidity measures further. I feel this trend could continue in the near term. This will perhaps also be needed to achieve the central bank’s targets of money supply growth (15 per cent; currently less than 14 per cent) and credit growth (17 per cent; currently around 16.5 per cent) set for 2012-13, which would be difficult to achieve without support from the apex bank. Cumulatively, the CRR has been reduced already by 150 bps in 2012 and is currently at its historical lows — it may be used bit more sparingly in the near term. But, open market operations (OMO) can be used to supplement near-term liquidity infusion needs.

Growth-inflation dynamics

The timing and quantum of further easing the repo rate will depend on the unfolding growth-inflation dynamics. Headline inflation is nearly certain to remain high and move higher in the near term (the recent diesel price hike alone, including cascading effects, adding over one percentage point). But, rather than looking only at the headline, it is important to track core inflation to assess intrinsic price pressures in the economy.

Core inflation will likely move lower in the next four-six months, given continued weakness in industrial activity and weaker pricing power. Softer core inflation prints and signs of peaking of headline inflation will likely offer another window of rate cuts in early-2013 — perhaps around 100 bps reduction in the repo rate over the first half of 2013. Monetary policy, till a few days back, was being seen as the sole hope to revive growth in 2013. Of late, the government’s efforts to break the policy stalemate are looking constructive. Such measures, if implemented effectively, can help improve business environment and growth prospects over six-12 months and will eventually offer the RBI better headroom to balance its objectives.

(The author is Chief India Economist, Barclays. The views are personal.)

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