RBI set to hike rates, loans will cost more

MUMBAI: Loans are expected to get more expensive both for corporates and individuals with Reserve Bank of India hinting that it is willing to sacrifice some growth in order to tame inflation. For markets, banks and economists , it is almost certain that RBI will raise interest rates by a minimum of 25 basis points on Tuesday in order to bring down prices.

In its report on macroeconomic and monetary developments , which is a prelude to its policy announcement, RBI said that as prices continue to remains stubbornly high, there is a need to continue with its anti-inflationary monetary policy stance. The report also highlighted that median projection for GDP growth in FY12 has come down to 8.2% from 8.5% in the previous quarter. At the same time, the median for forecast for inflation has risen from 6.6% to 7.5%.

The report also said that despite RBI's measures, inflation was expected to stay high for some time. The central bank warned that in coming months it may be forced to make a trade-off between inflation and growth.

"Increasing inflation strengthens our expectations that RBI would continue tightening its key policy rates, at least twice this year. However, with the estimates of a normal monsoon and relative moderation of inflation from its peak at 11% y-o-y in April 2010 to 8.9% in March 2011, RBI would hike both its key policy rates by 25 bps on May 3," said Madan Sabnavis, chief economist, Care Ratings . RBI has increased its raising its repo rate by 200 basis points to 6.75% through eight hikes since March 2010.

"The run-up to the monetary policy has been dominated by the debate of whether RBI should hike policy rates by 50 bps or 25 bps. The central bank is facing flak from some quarters who argue that even after a year of tightening , headline WPI inflation hasn't declined appreciably. However the counter-factual would be that but for RBI actions , inflation would have climbed even higher," said A Prasanna, who heads fixed income research at ICICI Securities Primary Dealership.

Joydeep Sen, senior vice president at BNP Paribas, points out that although there are expectations in certain quarters that RBI should go for an aggressive 50 bps rate hike, there is a possibility that with eight review meetings in a year, the central bank can hike rates in the next meeting after one and a half month.

He points to the interest rate derivative markets where the one-year overnight indexed swap (OIS) is at 7.86%, which implies the market is pricing in more than 1% rate hikes over the next one year, taking the repo rate of 6,75% as the current effective rate.

Foreign shareholders can pledge shares

In a move to further Iliberalize and simplify processes associated with foreign investment in India, RBI has allowed banks to permit foreign shareholders to pledge their shares. However, this can be done only for the purpose of raising funds for the local investee firm. RBI has also allowed banks to open escrow accounts without prior permission.

Source: EconomicTimes