Bankers agree rate cut by RBI can't lower inflation, but still want it

Bankers agreed that inflationary conditions offered little room for lowering interest rates, but stuck to their demand for a rate cut, saying it was the only tool available to revive the "animal spirits" in the economy in the absence of policy action.

In their customary pre-monetary policy meeting with Reserve Bank of India (RBI) Deputy Governor Subir Gokarn, bank chiefs also acknowledged that rate cut was not a panacea for the nation's economic ills.

Lenders demanded that RBI cut repo rate - the rate at which it lends to banks - by 25 bps to 7.75% and reduce cash reserve ratio - the proportion of deposits to be kept with RBI. These can be 'symbolic' gestures to industry and investors, bankers told Gokarn, according to bank officials present at the meeting.

The central bank will announce its quarterly monetary policy review on July 31.

"We know that RBI alone can't revive the economy and that a cut by itself will not boost growth," said a banker who attended the meeting, but did not want to be identified. "But a cut would be symbolic, especially in the absence of any action from the government."


A senior bank chief said a rate cut was unlikely.

"Monetary policy can't be a panacea for all ills," said Aditya Puri, chief executive at HDFC Bank. "A rate cut at this time with high inflation is not feasible," he said, adding that the government needs to take measures to tackle supply-side issues that are pushing up prices.

For more than a year, RBI has been pleading with the government to put its house in order as record borrowings by the Centre - Rs 5.7 lakh crore this year - have been crowding out private investments. It also said subsidies, notably on diesel, are distorting the market and leading to high deficit.

But there's little on the ground to show that the government will comply with these requests as political compulsions make it difficult to raise prices of diesel and cooking gas.

According to two bankers who did not want to be identified, Gokarn is supposed to have asked bank chiefs whether they were asking for a rate cut because the government had done something to improve the fiscal position, or were they expecting RBI to do so irrespective of government inaction.

But these statements could not be independently verified from the deputy governor.

RBI Bearing the Burden

RBI is being pushed to bear the burden of revitalising an economy that has fallen from being one of the top four growth economies in the world - the so-called BRIC - two years ago to possibly becoming the first among them to get a junk rating.

Years of fiscal profligacy by the government have caused structural damage to the economy that is now staring at stagflation - slow growth and high inflation. The central bank, which some say was slow to raise rates in 2010 when the economy rebounded rapidly from the Lehman crisis, has since defied calls for easy rates despite slumping industrial output.

Governor Duvvuri Subbarao on June 18 stunned investors by holding interest rates, contrary to expectations of a cut after the March quarter GDP growth fell to a nine-year low. But inflation at 7.6% and consumer prices rising at more than 10% at the time led the governor not to yield to industry and investors' demands.

RBI, after surprising the market with a more-than-expected 50-basis-point cut in April, had said the government needs to act for its policy to be effective.

"The fiscal deficit of the central government has remained elevated since 2008-09," Subbarao said in his annual monetary policy on April 17. "Large fiscal deficit also has led to large borrowing requirements by the government. Large borrowings have the potential to crowd out credit to the private sector. Crowding out of the more productive private credit demand will become more critical if there is fiscal slippage."



Source: EconomicTimes