MUMBAI (Commodity Online): The 0.5 percentage cut in cash reserve ratio (CRR) by the RBI indicates a shift in stance towards monetary easing. The primary reason behind a CRR cut is to address systemic liquidity shortfall in the banking system. This move also hints at RBI’s belief that inflation trajectory would move decisively downwards to 7.0 per cent by March 2012 from 10.0 per cent in September 2011, according to Monetary Policy Review by CRISIL Research.
Despite slowing growth, risks to inflation persist. Suppressed prices of utilities (such as electricity) and critical inputs (such as coal), along with a structural demand-supply mismatch in food articles, will keep pressure on inflation high next year. To achieve sustained inflation control without jeopardising growth, the focus of government policy will have to shift towards expanding supply potential rather than stimulating demand in the economy.
Liquidity pressures mount in January
- The cut in CRR highlights RBI’s intention to begin monetary easing. This move will address systemic liquidity shortage and infuse Rs 320 billion into the system. Consequently, the need for open market operations (OMOs) by RBI would reduce.
- Despite tight liquidity, (as reflected in the firming of call rates), and higher-than-budgeted borrowing, the government’s cost of borrowing has already fallen below its floor – the repo rate – mainly due to OMOs.
- The decline of the 10-year G-sec yield below the repo mirrors the trend in 2008 when market expectations of a monetary policy easing were high.
Rate cut likely when core inflation moderates
- Most of the recent decline in overall inflation is due to a fall in primary food inflation, which we believe is a result of
temporary and not structural factors. While prices of perishables (fruits and vegetables) have fallen sharply,
protein inflation (milk, eggs, meat & fish) remains high.
- Core inflation remains stubborn, partly due to higher imported component inflation – attributable to rupee
depreciation. As core inflation begins to ease hereon, RBI would cut policy rates.
Impact of rupee depreciation on inflation
- Rupee depreciation continues to exert pressure on imported component of inflation, in particular, fuel prices that are linked to international prices. The rupee has fallen sharply against the US dollar by 14.1 per cent in January 2012,
compared to a year ago.
- CRISIL Research expects the price of crude oil (in rupee terms) to rise by at least 18 per cent (year-on-year) by March 2012, thereby necessitating a further pass-through in domestic prices.
- This assumes that the rupee rises to 48 per dollar (6.7 per cent depreciation year-on-year) by March-end 2012 - to
which we assign a 50 per cent probability. We also assume that global oil price remains at the current level of US$ 99
per barrel till March 2012.
Credit growth to be at 16 per cent by March 2012
- Aggregate y-o-y bank credit growth moderated to 16 per cent as on December 30, 2011 from 21.6 per cent on March 25, 2011 due to a slowdown in economic and investment growth, rising interest rates and an uncertain
global environment.
- Infrastructure credit growth has moderated to 20.3 per cent (y-o-y) as of November 2011 from 39 per cent as of March 2011. Telecom has been a major dampener with outstanding loan growth de-growing by 8.4 per cent as of
November 2011. Credit growth to the power sector has also declined to 27.5 per cent as of November 2011 from
43 per cent as of March 2011.
- Growth in priority sector lending declined to 9.2 per cent as of November 2011 from 15 per cent as of March 2011
following a decline in credit growth for agriculture & allied sectors and micro & small enterprises in the services
sector.
- CRISIL Research expects credit growth to be around 16 per cent by March 2012, slightly lower than our earlier
estimate of 17 per cent.
- With repo rate at a high level, the cost of funds for banks has increased. However, sluggish credit demand and
limited ability of banks to pass on the increase in cost of funds would pull down their net interest margins by 5-10
bps in 2011-12.
Deposit growth to be at 17 per cent by March 2012
- The 75-100 bps increase in deposit rates in the first half of 2011-12, coupled with the correction in capital
markets has caused deposit growth to rise to 17.2 per cent as on December 30, 2011 from 16 per cent as on
March 25, 2011.
- CRISIL Research does not expect deposit rates to rise further in the next 1 year. Overall deposit growth would
remain at about 17 per cent by end of March 2012.
- With moderation in credit off-take and steady growth in deposits, SLR investments have risen marginally to 27
per cent as of December 30, 2011 from 26.7 per cent as on March 25, 2011.
(Courtesy: CRISIL Research)
