Finance Minister says moves to restrict liquidity aimed at arresting rupee depreciation

Finance minister P.Chidambaram on Tuesday sought to calm the markets by stating that the RBI's move to restrict the overnight liquidity available to banks was not a prelude to monetary policy tightening by the Central Bank which is scheduled to come out with its quarterly statement end of July.

The finance minister emphasised that the RBI's only objective was to stabilise the rupee in the short run. The minister came out with a statement promptly in the morning as the equity markets showed a lot of nervousness over the RBI move, perhaps interpreting it as a prelude to monetary tightening later in the month.

The finance minister further emphasised that supporting growth remained the main objective of the government and the RBI was also sensitive to it.

The RBI had in recent months recognised the declining trend in inflation and was getting ready to support growth with gradual monetary easing, but the rupee's sharp depreciation following the global shock caused by US Fed Reserve's statement on withdrawing liquidity some weeks ago has created doubts in the minds of market players in India.

The finance minister has tried to clarify those very doubts by suggesting growth will be supported by the government and RBI.

There is some hope of the rupee stabilising after the RBI's short term liquidity adjustment in the banking system. It is hoped that normalcy will return and the rupee will stabilize at current levels.

Prime Minister's economic advisor Dr.C.Rangarajan on Monday told The Hindu that the rupee's exchange rate is well adjusted now and is neither under valued or overvalued going by the REER formula for 36 country currency basket.

So the government may possibly prefer the rupee to remain at the present level and the RBI most likely will intervene to prevent any sharp depreciation from where the rupee stands today.

Meanwhile the government will continue to explore other measures to encourage capital flows as it need some $85 billion of net capital inflows to meet the Current Account Deficit(CAD) of about 4 per cent of GDP this fiscal. The prime minister is personally monitoring various FDI liberalisation measures which could have a positive sentiment impact.

Dr.Rangarajan has spoken of the need to explore an NRI bond issue in the US market. In the past SBI has conducted such bond offerings. The SBI Chairman Pratip Chaudhary however told The Hindu it has become more difficult to make a bond offering to just one class of investors such as NRIs because the US regulation discourages it and even puts a withholding tax on the interest earned by the US based NRIs.

This makes the issue somewhat unattractive and the SBI has conveyed this to the government. The SBI's suggestion is the government must do a direct sovereign bond issue like Turkey, South korea and other emerging economies have done in the past.

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