Ready to use all available instruments to respond proactively: Subbarao

The Reserve Bank of India (RBI), on Tuesday, kept the indicative policy (repo) rate unchanged at 7. 25 per cent and the Cash Reserve Ratio (CRR) at 4 per cent, signalling its determination to quell volatility in the foreign exchange market which is a risk to inflation.

“The Reserve Bank stands ready to use all available instruments and measures at its command to respond proactively and swiftly to any adverse development,” said D. Subbarao, Governor, RBI, while announcing the first quarter review of monetary policy for 2013-14.

Repo rate is the rate at which banks borrow funds from the central bank, and CRR is the portion of the total deposits banks are mandated to keep with the central bank.

The RBI had brought down the repo rate from a peak of 8.50 per cent by 125 basis points in 2012-13 and on May 3 this fiscal, and CRR from a high of 6 per cent in the last one-and-a-half years by 200 basis points.

In the last annual policy announcement in early May, the RBI had even asserted that “there is little room to ease the monetary policy further.”

India is at present caught in a classic ‘impossible trinity’ – trilemma, whereby “we are having to forfeit some monetary policy discretion to address external sector concerns,” said Dr. Subbarao.

“The liquidity tightening measures instituted by the Reserve Bank over the last two weeks are aimed at checking undue volatility in the foreign exchange market. They will be rolled back in a calibrated manner as stability is restored to the foreign exchange market, enabling monetary policy to revert to supporting growth with continuing vigil on inflation,” said the RBI Governor. However, he did not divulge any detail on when the roll back would take place.

Current account deficit

“We have emphasised that the time available now should be used with alacrity to institute structural measures to bring the current account deficit (CAD) down to sustainable levels,” he said. CAD had been well above the sustainable level of 2.5 per cent of GDP (gross domestic product) for three years in a row, he pointed out. “This is a daunting structural risk factor. It has brought the external payments situation under increased stress, reflecting rising external indebtedness and the attendant burden of servicing external liabilities,” he added.

While the onset of the monsoon and its spread had been robust, the persisting weakness in industrial activity had heightened the risks to growth, he said. However, global growth had been tepid with consequent adverse spill-overs on India’s exports, manufacturing and services, he added.

The RBI revised its growth projection for the current financial year from 5.7 per cent to 5.5 per cent.

Industrial production had slumped, with lead indications of declining order books and input price pressures building on rupee depreciation.

He said that depressed global conditions were undermining export performance, even as the heightened volatility in capital flows had raised external funding risks. “Wholesale price inflation pressures are on the ebb, but retail inflation remains high,” the RBI Governor said.

In advanced economies (AEs), activity had weakened. Emerging and developing economies (EDEs) were slowing, and also experiencing sell-offs in their financial markets largely due to the safe-haven flight of capital.

“Market expectations of Quantitative Easing (QE) taper and the consequent increase in real interest rates in the U.S. have translated into a rapid appreciation of the U.S. dollar and consequent depreciation of EDE currencies,” he pointed out.

“We are dependent on external flows for financing our current account deficit. India will, therefore, remain vulnerable to confidence and sentiment in the global financial markets,” he added.

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