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Prudence under strong pressure

Reserve Bank of India Governor Raghuram Rajan on Tuesday kept the rate at which it lends money to commercial banks constant at 7.75 per cent, disappointing stock markets and home loan consumers. However, in a move to placate some of that disappointment, the RBI has cut the statutory liquidity ratio or the amount of bonds that lenders must set aside by 50 basis points to 21.5 per cent of depositors.

Speaking to the media, Rajan said that since there have been ‘no substantial new developments’ on the process to reduce inflation since January 15, the bank has maintained status quo on its key lending rate. He further argued that it would prudent on the central bank’s part to wait for some tell-tale signs  from the government that inflation will continue to ease, before any additional measures are incorporated.

Financial analysts, however, expect the RBI to cut rates after the Union Budget on February 28, since the central government has confined fiscal deficit to 4.1 per cent of the GDP. For months, members of government and industry have been pushing Rajan to reduce lending rates to induce a greater infusion of capital into the economy. Allied with a steep reduction in crude oil prices from more than $100 a barrel at the start of 2014 to under $50 in the past month and falling inflation figures, many expected Rajan to reduce lending rates sooner.

Until December 2014, the RBI Governor remained adamant, stating that the central bank needed more time to gauge whether the government was serious about reducing inflation. In his December 2014 monetary policy review, however, Rajan said that he could consider a rate cut ‘outside the policy review cycle’, as long as inflation figures and steps to reduce fiscal deficit were encouraging. In January 2015, the governor reduced its lending rate by 25 basis points, although a statement on the RBI’s website on the same stated that developments over the last few months have ‘provided (adequate) headroom for a shift in the monetary policy stance’. Following his prudent nature, Rajan is looking for further headroom, before the bank again embarks on a shift in its monetary policy stance.
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