Monetary tightening by RBI fixing CRR and repo to 9

July 29 2008 As per the weak monsoon data, RBI decided to tighten CRR rates and fixed repo rate to control mid term inflation.

http://rbi.org.in/scripts/NotificationUser.aspx?Id=4380&Mode=0

As a result of this tightening, the call rates for market will tend to increase. This is a measure for removing the volatility of market as well as reducing the total cash available for banks to lend to corporates for their expansion plans.

CRR rate is at 9. The expectation is that PLR rate will increase from 12.75-13.25 to 13-13.5 for the top 5 banks. Interestingly this is the second time within a month, RBI has hiked the CRR rate by 25 basis point.

The reverse repo rate being 6 only influences the call market rates. However the difference of fixed repo and reverse repo is 300 basis points thus curtailing the M3 money circulation further as the PLR rate could be increased.

RBI states that inflation concerns are its top priority. with Oil prices showing a downward trend from 145$ per barrel to 123$ per barrel and towards 100$, the RBI has flexed muscles at the right time. This would end up in lowering the oil imports mid term plans mainly due to liquidity concerns. The monsoon data used by RBI showed a grim picture. The reality is within the past week, the monsoon data has picked up thus increasing the food security and energy security of key southern states. RBI has hit the nail at the correct time and with nuclear deal closed, the signs of upward inflation could be lowered. However the internal assessment of RBI points to 16% inflation. With this monetary tightening, we could see the stagnation of inflation at 13% which no doubt is also higher.

It remains to be seen how the markets respond to this tightening.