Hawk nor dove, Rajan plays owl

RBI raises lending rates for banks to cool inflation and bring back growth

Hawk nor dove, Rajan plays owl
Raghuram Rajan, governor of Reserve Bank of India (RBI), surprised the markets on Tuesday by hiking a key policy rate for the third time since he took over. The repo rate or the rate at which RBI lends to banks has been increased by 25 basis points to 8 per cent.

Banks are likely to move in tandem and raise deposit and lending rates, but refrain from increasing their base rates. The risk premiums and the tenure premiums on select loan products may go up. On the liabilities side the shorter tenure deposit rates may rise, according to a preliminary assessment by bankers.

Rajan defended the increase in rates by saying he had no magic lever to cool inflation and bring back growth.

RBI said it might be the last of rate increases if the inflation target of 8 per cent was met within 12 months. Though the policy action is hawkish, the policy guidance is dovish, signalling a peaking of rates and a possible reversal of the interest rate cycle. But a dovish guidance could be anti-inflationary, say bankers.

Rajan differed, saying the policy actions were imperative for the greater common good. He told media: “We are neither hawks nor doves, we are owls, vigilant when others are resting.” According to him, the consumer price inflation is too high for the common man and needs to be brought down. “We need to take into account a weak economy; need to revisit the demand-inflation dynamics,” he said in response to a question by Financial Chronicle.

“If policy actions succeed in delivering the desired inflation outcome, real GDP growth can be expected to firm up from a little below 5 per cent in 2013-14 to a range of 5 to 6 per cent in 2014-15. A pick-up in investment in an environment in which external demand continues to be supportive of export performance could impart an upside to this forecast,” RBI said.

SBI, which controls about 15 per cent of all bank lending in India, said it might have to increase rates on select products and also give depositors a better return.

Arundhati Bhattacharya, SBI chairperson, said, “Depositors have to be given some returns that make some sense to them. But on the other side, you cannot give (such) excess returns that our borrowers are unable to bear the pressure of the risk. There will be a little bit of a rise but how much of the rise can be passed on has to be seen in the capacity of the people who take money from SBI.”

RBI has clearly taken to inflation targeting with a focus on the consumer price index following the recommendations of the Urjit Patel committee. Plus, monetary policy review will become bi-monthly instead of mid-quarterly and quarterly as now.

Shailendra Bhandari, MD and CEO of ING Vysya Bank, said, “The policy statement and action demonstrate RBI's intent to follow through on the Patel committee recommendations. Rates appear to have peaked for the short term with an upside bias, depending on the inflation trajectory in the next few quarters.”

Inflation, as measured by the consumer price index, which is 9.8 per cent, and measured by the wholesale price index, which is 6.8 per cent, is still too high for RBI to ignore. Unless inflation is doused, growth will continue to get hampered, according to RBI

KR Kamath, CMD of PNB and head of the Indian Banks' Association, said, “The point is that at one end you have pressure on interest rates. At the other end is inflation. We have to see what compensation we can offer the depositor. One has to balance between the two. It is too early to react. We will be watching how the market reacts. Our respective asset liability committees will meet.”

Except for ICICI Bank and IDBI Bank, the credit-deposit ratio in most banks is below 80 per cent. They are the ones in a tight spot, making it difficult for them to revise their base rates. Credit growth, though at 14.8 per cent and marks a slight improvement in a month is still sluggish.

Chanda Kochhar, MD and CEO of ICICI Bank, said, “You can never link lending rates directly with the repo rate. Lending rates are dependent on our cost of funds. For many quarters the deposit rates have not changed though the repo rate went up. The reason is that the deposit rates are linked to the rate of inflation. You should watch the trend in inflation and the trend in deposits -- which way they impact our cost of funds and, therefore, the lending rates.”



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