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RBI ignores high food prices & CAD, cuts repo

In line with expectations, the RBI on Tuesday cut its short-term lending rate by 0.25 per cent to spur growth and revive investment but sounded a note of caution on further easing of rates on account of the persistently high food inflation rate and current account deficit (CAD).

'The foremost challenge for returning the economy to a high growth trajectory is to revive investment. A competitive interest rate is necessary for this but not sufficient,' the Reserve Bank said in its mid-quarter review of the monetary policy. Accordingly, its short term lending rate or the repo was reduced by25 basis points (bps) to 7.5 per cent, making it the second consecutive cut in as many months.

The market was widely expecting a cut by 0.25 per cent due to the deteriorating growth which is estimated to touch a decade low of 5 per cent and a cooling in the core inflation to a 35 month low.

He, however said '...even as the policy stance emphasises addressing the growth risks, the headroom for further monetary easing remains quite limited.'

Expecting the government to begin spending, it left the cash reserve ratio or the amount of deposits banks have to park with RBI, unchanged at 4 per cent.

The Reserve Bank of India, however stressed that a interest rate cut alone will not be helpful in order to achieve the objective of reviving investment and called for bridging supply constraints and staying course on fiscal consolidation.

On its guidance, the statement was cautious on further easing and pointed towards the rising current account deficit which is widely expected to touch a record high at 5 per cent and the expectation of inflation staying range-bound due to fuel price revisions and rising MSPs for agri produce, as the inhibiting factors.

'The Government has a critical role to play in this regard by remaining committed to fiscal consolidation, easing the supply bottlenecks and improving governance surrounding project implementation,' RBI said, acknowledging the 'firm commitment' to fiscal consolidation made in the budget.'Elevated food prices, including pressures stemming from Minimum Support Price (MSP) increase and the wedge between wholesale and retail inflation (which rose to 10.9 per cent in February) have adverse implications for inflation expectations,' it said.

On the Current Account Deficit, the RBI said the risk remains significant notwithstanding the likely improvement in fourth quarter and added, 'financing of the Current Account Deficit with stable flows remains a challenge'.

On liquidity management, which was mentioned by Finance Minister P Chidambaram on Monday, the Reserve Bank said it will continue using all instruments including government bond buybacks to inject liquidity.

Reserve Bank of India retains the growth and inflation forecast at 5.5 per cent and 6.8 per cent respectively for the current fiscal.


  • The markets were widely expecting a 0.25% cut due to the deteriorating growth rate, which is estimated to touch a decade-low 5% in the current financial year (2012-13)

  • RBI Governor Duvvuri Subbarao , however, said that ‘a competitive interest rate is a necessary but not sufficient condition’ for boosting investment. He stressed the need to bridge the supply constraints in the economy and stay the course on fiscal consolidation

  • The  country’s central bank retained its growth and inflation rate forecasts at  5.5 % and 6.8% respectively for the current  fiscal.


India Inc on Tuesday welcomed the 0.25 per cent interest rate cut by the Reserve Bank saying it would help revive confidence of industry and hoped for further cuts in the coming days.

'The RBI's decision to go in for another round of policy rate cuts was very aptly timed and was almost indispensable to revive the confidence of industry,' Ficci President Naina Lal Kidwai said.

CII President Adi Godrej said with the nascent signs of upturn in industrial production and expectations of a normal monsoon, 'it is necessary that the RBI provides the boost to green shoots of recovery'.

Industry chamber Assocham, however, pitched for further rate cuts to revive the investment engines and effective pass through of the fiscal measures undertaken by the government. 'Industry is looking for reduction of key policy rates by 50 bps so that the fiscal measures already taken by the government and reform process on the high adds to the revival of the growth momentum,' Assocham President Rajkumar N Dhoot said.

'We do hope that RBI will follow this up with further rate cuts even though they have indicated that headroom for further cuts is limited,' Kidwai said.

Godrej further said the policy gives a strong signal that the RBI and the government would work in tandem to bring growth back to the economy.

Commenting on the policy, FIEO President M Rafeeque Ahmed said the rate cut may address immediate liquidity crunch of banks, but structural issues has to be addressed to put economy back on growth trajectory.


Appreciating the RBI’s decision to cut key interest rate by 0.25 per cent, Planning Commission Deputy Chairman Montek Singh Ahluwalia on Tuesday said it could have given a more robust signal to the industry.

‘This (rate cut) is a signal and I have to say that it is in the right direction’, he said.

’We are looking at it with unhappiness. We feel, the signal should have been stronger...Many people would say that the signal should have been more robust than 25 basis points’, Ahluwalia added.
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