INDIA BUSINESS WORLD - NOVEMBER 1^st – NOVEMBER 15^th 2008

RBI CUTS CASH RESERVE RATIO & STATUTORY LIQUIDITY RATIO BY 1% EACH

CITING evident signs of a global recession, the Reserve Bank of India has opened the sluice gates further making available close to Rs 1, 60,000 cr to banks for onlending. The measures were anticipated to come as liquidity continued to be drained out of the system following record sales by foreign institutional investors and drying up of overseas debt. The measures have had an immediate impact — state-owned IDBI Bank has cut home loan and education loans by 50 basis points but has increased margins on home loans. This time the central bank has used most of the conventional tools at its disposal and taken some unconventional measures as well. The conventional steps include cutting both the cash reserve requirement and statutory liquidity ratio by 1% each and reducing the repo rate by 50 basis points. Among the unconventional measures, the central bank has allowed banks access to special refinance at 7.5% for 90 days and allowed them to borrow against government securities to onlend to finance companies. To ensure that the government borrowing does not hurt the financial system, the RBI has decided to use money impounded under the market stabilization scheme for government borrowing.

The CRR cut will release Rs 40,000 cr to banks in two phases — the first Rs 20,000cr would be released immediately while the rest will flow into the system from the fortnight beginning November 8. Although this is a lot of money, the banking system will continue to face a shortfall as banks were forced to borrow far more from the RBI. The cut in repo makes borrowing from RBI cheaper by half a percentage point. The reduction in SLR from November 8 would mean that banks now have the option of selling Rs 40,000cr of government securities which until now formed part of their statutory investments.

In October, the RBI had reduced CRR by a cumulative 250 basis points to augment liquidity. Besides, a special 14-day repo window for Rs 20,000 crore was opened to enable mutual funds access to funding. Banks were also allowed temporary access to SLR eligible securities by an additional 0.5% of their net demand and time liabilities.

The moves were expected. The massive purchase of dollars, estimated at over $5bn, has resulted in funds turning scarce yet again with banks borrowing over Rs 65,000 cr from the RBI. "Interest rates will come down if there is a sustained improvement in liquidity.